Working Paper

The Incredible Taylor Principle

Abstract: This paper discusses the extent to which the Taylor principle can solve the indeterminacy of equilibria in economies where the monetary authority follows an interest rate feedback rule. We first show that only the limiting behavior of the feedback rule matters, so identifying in the data if the Taylor principle holds cannot be achieved. Second, we show that the competitive equilibrium under interest rate feedback rules is nominally determined if the Taylor principle holds and, in addition, two ad-hoc restrictions on equilibrium are satisfied. These require equilibrium inflation to be bounded and equilibria to be locally unique. Finally, we show that the Taylor principle is strongly time inconsistent, in a sense we make very precise.

Keywords: Taylor principle; Uniqueness of equilibrium; Time consistency;

JEL Classification: E40; E50;

https://doi.org/10.21034/sr.658

Bibliographic Information

Provider: Federal Reserve Bank of Minneapolis

Part of Series: Staff Report

Publication Date: 2024-06-18

Number: 658