Economic Structure, Policy Objectives, and Optimal Interest Rate Policy at Low Inflation Rates
Working Paper No. 03-W10
Diana N. Weymark
ABSTRACT [article]
In this article, the optimal interest rate rule generated by
Svennson's (1997) dynamic model is used to determine the impact that a number of key structural characteristics have on the downward flexibility of interest rates at low rates of inflation. The potential impact of preferences for inflation stability, relative to output stability, on the monetary authority's ability to use expansionary interest rate policy is also considered. Estimates of the model for six countries provide evidence of the quantitative significance of the theoretical results. The empirical results are used to identify which monetary authorities are likely to be the most severely constrained in the event of an economic downturn. The size of the contraction that would be required for the interest rate constraint to bind is estimated for each country in the sample.
Keywords and Phrases: Interest rate rule, low inflation, monetary policy rule, Taylor rule
JEL Classification Number: E52