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Forward-Looking Behavior and the Stability of a Conventional Monetary Policy Rule

Jeffrey Fuhrer () and George R Moore

Journal of Money, Credit and Banking, 1995, vol. 27, issue 4, 1060-70

Abstract: At the turn of the century, Knut Wicksell proposed a monetary policy rule that has become conventional wisdom: raise interest rates when inflation is above target and vice versa. The authors discover some surprising properties of this rule. When the rule is included in a model in which inflation is driven by the short real rate, the model is unstable. When the rule is combined with a Phillips curve driven by a backward-looking long real rate, the model is unstable. However, when a forward-looking component is added to inflation or the long real rate, the policy stabilizes the rate of inflation. Copyright 1995 by Ohio State University Press.

Date: 1995
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Handle: RePEc:mcb:jmoncb:v:27:y:1995:i:4:p:1060-70