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A Speed Limit Monetary Policy Rule for the Euro Area *
Author(s) -
Stracca Livio
Publication year - 2007
Publication title -
international finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.458
H-Index - 39
eISSN - 1468-2362
pISSN - 1367-0271
DOI - 10.1111/j.1468-2362.2007.00196.x
Subject(s) - economics , monetary policy , output gap , inflation (cosmology) , benchmark (surveying) , interest rate , nominal interest rate , limit (mathematics) , inflation rate , inflation targeting , real interest rate , monetary economics , econometrics , macroeconomics , mathematics , physics , mathematical analysis , geodesy , theoretical physics , geography
The main task of central banks is to set the level of short‐term nominal interest rates in reaction to economic developments, with the aim of achieving their statutory objectives (typically some combination of inflation and output variability). If agents are forward‐looking, central banks can achieve better macroeconomic outcomes by committing to follow a rule‐like behaviour. Against this background, the contribution of this paper is twofold. First, it estimates a small‐scale model of the euro area economy that can be used as a benchmark for the evaluation of different simple policy rules in the euro area economy. Second, it studies the performance of a relatively new type of rule, labelled ‘speed limit’ (SL), where the nominal interest rate reacts to the rate of growth in the output gap. The main conclusion of the study is that an SL policy performs remarkably well.