NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Efficient Rules for Monetary Policy

Laurence Ball

NBER Working Paper No. 5952
Issued in March 1997
NBER Program(s):   EFG   ME

This paper defines an efficient rule for monetary policy as one that minimizes a weighted sum of output variance and inflation variance. It derives several results about the efficiency of alternative rules in a simple macroeconomic model. First, efficient rules can be expressed as 'Taylor rules' in which interest rates respond to output and inflation. But the coefficients in efficient Taylor rules differ from the coefficients that fit actual policy in the United States. Second, inflation targets are efficient. Indeed, the set of efficient rules is equivalent to the set of inflation-target policies with different speeds of adjustment. Finally, nominal-income targets are not merely inefficient, but disastrous: they imply that output and inflation have infinite variances.

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Document Object Identifier (DOI): 10.3386/w5952

Published: International Finance, Vol. 2, no. 1 (April 1999): 63-83

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