Discussion Paper Details

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Title: Robust Learning Stability with Operational Monetary Policy Rules

Author(s): George W. Evans and Seppo Honkapohja

Publication Date: January 2008

Keyword(s): adaptive learning, Commitment, determinacy, interest-rate setting and stability

Programme Area(s): International Macroeconomics

Abstract: We consider "robust stability" of a rational expectations equilibrium, which we define as stability under discounted (constant gain) least-squares learning, for a range of gain parameters. We find that for operational forms of policy rules, i.e. rules that do not depend on contemporaneous values of endogenous aggregate variables, many interest-rate rules do not exhibit robust stability. We consider a variety of interest-rate rules, including instrument rules, optimal reaction functions under discretion or commitment, and rules that approximate optimal policy under commitment. For some reaction functions we allow for an interest-rate stabilization motive in the policy objective. The expectations-based rules proposed in Evans and Honkapohja (2003, 2006) deliver robust learning stability. In contrast, many proposed alternatives become unstable under learning even at small values of the gain parameter.

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Bibliographic Reference

Evans, G and Honkapohja, S. 2008. 'Robust Learning Stability with Operational Monetary Policy Rules'. London, Centre for Economic Policy Research.