Taylor rules in a limited participation model

Abstract

The authors use the limited participation model of money to study Taylor rules' operating characteristics for setting the interest rate. Rules are evaluated according to their ability to protect the economy from bad outcomes like the burst of inflation observed in the 1970s. On the basis of their analysis, the authors argue for a rule that 1) raises the nominal interest rate more than one-for-one with a rise in inflation; and 2) does not change the interest rate in response to a change in output relative to trend.Monetary policy ; Interest rates