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Federal Reserve Bank of Kansas City
Research Working Paper
Forecast-based monetary policy
Jeffery D. Amato
Thomas Laubach
Abstract

A number of central banks use (published or unpublished) forecasts of goal variables as key ingredients in their decisions for instrument settings. This use of forecasts is modelled as a particular form of objective with the minimization of which the central bank is charged. We use an estimated optimization-based model with staggered price and wage setting to analyze the welfare properties of such objectives and their implications for the form of instrument rules. We find that stabilizing expected price inflation at a horizon of two years around target dominates policies of stabilizing inflation at shorter or longer horizons. However, stabilizing all fluctuations, not just forecastable ones, in both wage and price inflation leads to the closest approximation to the welfare-optimal rule.


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Jeffery D. Amato & Thomas Laubach, Forecast-based monetary policy, Federal Reserve Bank of Kansas City, Research Working Paper 99-10, 1999.
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Keywords: Monetary policy ; Forecasting
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