Optimal Policy Projections"We outline a method to provide advice on optimal monetary policy while taking policymakers' judgment into account. The method constructs Optimal Policy Projections (OPPs) by extracting the judgment terms that allow a model, such as the Federal Reserve Board's FRB/US model, to reproduce a forecast, such as the Greenbook forecast. Given an intertemporal loss function that represents monetary policy objectives, OPPs are the projections - of target variables, instruments, and other variables of interest -that minimize that loss function for given judgment terms. The method is illustrated by revisiting the Greenbook forecasts of February 1997 and November 1999, in each case using the vintage of the FRB/US model that was in place at that time. These two particular forecasts were chosen, in part, because they were at the beginning and the peak, respectively, of the late 1990s boom period. As such, they differ markedly in their implied judgments of the state of the world, and our OPPs illustrate this difference. For a conventional loss function, our OPPs provide significantly better performance than Taylor-rule simulations"--NBER website |
Common terms and phrases
5.6 percent adjustment costs alternative analysis assumptions backcast baseline projection Bluebook Capital central bank conditional core inflation deviation economy equations estimates February 1997 Greenbook federal funds rate Federal Reserve Board Federal Reserve System finite-horizon approximation FOMC forecast period Greenbook extension Greenbook forecast historical horizon î¹ includes incorporate inflation rate inside the back instructions inside instrument intertemporal loss function judgment Lars E. O. Svensson linear Macroeconomics Market matrix method of OPPs monetary policy NAIRU NBER Working Papers near-linear November 1999 Greenbook Number Author(s Optimal Policy Projections papers in hard Partial Subscription percentage point policymaker potential output price stability productivity boom productivity growth projection model quarter rate of inflation rational expectations real funds rate reference projection restriction scenarios simulation stable inflation staff stochastic process strategy Svensson 17 target levels target rate target variables Taylor rule Tetlow Title Date unemployment rate VAR-based views vintage Xt+T,t