Working Paper

The Incredible Taylor Principle

Abstract: This note addresses the role of the Taylor principle to solve the indeterminacy of equilibria in economies in which the monetary authority follows an interest rate rule. We first study the role of imposing two additional ad-hoc restrictions on the definition of equilibrium. Imposing the equilibrium to be locally unique never delivers a unique outcome. Imposing the equilibrium to be bounded, renders the outcome unique only if the inflation target is the Friedman rule. Second, we show that the Taylor principle is strongly time inconsistent - in a sense we make very precise - and that policies that implement the Friedman rule are the only sustainable policies.

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

JEL Classification: E40; E50;

https://doi.org/10.21034/wp.790

Bibliographic Information

Provider: Federal Reserve Bank of Minneapolis

Part of Series: Working Papers

Publication Date: 2022-01-28

Number: 790