In the economy of Rulewania, the current inflation rate is 6 percent and the Central Bank's target inflation rate is 2 percent. Real GDP exceeds potential GDP by 1 percent, and the long-term growth rate of real GDP is 5 percent. The medium-term growth rate of the velocity of circulation of the monetary base is 2 percent. According to the Taylor rule, what federal funds rate should the Central Bank set?
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Monetary Policy
Answer:
ReplyDeleteThe Taylor rule is to set the federal funds rate equal to 2 percent plus the inflation rate plus one half of the gap between the actual inflation rate and the target inflation rate plus one half of the percentage deviation of real GDP from potential GDP. So the federal funds rate is equal to: .