Evaluating Monetary Policy using Deviation Errors

Dimitris Korobilis and Leif Anders Thorsrud ()

No No 08/2025, Working Papers from Centre for Applied Macro- and Petroleum economics (CAMP), BI Norwegian Business School

Abstract: From the perspective of flexible inflation targeting using a simple targeting rule, this paper introduces the Monetary Policy Deviation Error (MPDE) as a novel metric for assessing central bank performance and deliberations. The MPDE captures potentially time-varying shifts in the trade-off between stabilizing inflation and supporting real economic activity. Specifically, it quantifies the gap between the intended trade-off envisioned by policymakers and the trade-off realized through actual monetary policy outcomes. Under an optimal and unbiased monetary policy strategy, the MPDE should average to zero. Nonzero deviations indicate misalignment between the central bank’s stated objectives and the trade-offs actually achieved, suggesting that an alternative interest rate path would have better aligned outcomes with intentions. Applying the MPDE to evaluate the monetary policy strategies of Norges Bank and the Reserve Bank of New Zealand, we find posterior evidence supporting optimal policy alignment in the case of New Zealand.

Pages: 16 pages
Date: 2025-10
New Economics Papers: this item is included in nep-cba and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:bny:wpaper:0143

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