EXPLAIN THE TAYLOR RULE, INCLUDING THE FORMULA FOR SETTING THE FEDE...

4) - TEST BANK CHAPTER 18 CONDUCT OF MONETARY POLICY GOALS AND TARGETS TÀI CHÍNH TIỀN TỆ
TEST BANK CHAPTER 18 CONDUCT OF MONETARY POLICY GOALS AND TARGETS TÀI CHÍNH TIỀN TỆ
4) Explain the Taylor rule, including the formula for setting the federal funds rate, and the components of the formula. If the Fed were to use this rule, how many goals would it use to set monetary policy? Answer: The Taylor rule specifies that the target federal funds rates should be set to equal the equilibrium rate, plus the rate of inflation for the Fisher effect, plus one-half times the output gap, plus one-half times the inflation gap. The formula is Federal funds rate = equilibrium federal funds rate + inflation rate + ½ (output gap) + ½ (inflation gap) The output gap is the percentage deviation of real GDP from potential full-employment real GDP. The inflation gap is the difference between actual inflation and the central bank’s target rate of inflation. The equilibrium real federal funds rate is the real rate consistent with full employment in the long run. The inflation rate is the actual rate of inflation. The Taylor rule sets the federal funds rate recognizing the goals of low inflation and full employment (or equilibrium long-run growth).