Impulse-Based Computation of Policy Counterfactuals
Abstract: We propose an efficient procedure to solve for policy counterfactuals in linear models with occasionally binding constraints. The procedure does not require knowledge of the structural or reduced-form equations of the model, its state variables, or its shock processes. Forecasts of the variables entering the policy problem, and impulse response functions of these variables to anticipated policy shocks under an arbitrary policy, constitute sufficient information to construct valid counterfactuals. We show how to compute solutions for instrument rules and optimal discretionary and commitment policies with multiple policy instruments, and discuss various extensions including imperfect information, asymmetric objectives, and limited commitment. Our procedure facilitates the comparison of the effects of policy regimes across models. As an application, we compute counterfactual paths of the US economy around 2015 for several monetary policy regimes.
File(s): File format is application/pdf https://www.federalreserve.gov/econres/feds/files/2021042pap.pdf
Part of Series: Finance and Economics Discussion Series
Publication Date: 2021-07-15