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“Wait-And-See” Monetary Policy

Author

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  • Lei, Xiaowen
  • Tseng, Michael C.

Abstract

This paper develops a model of the optimal timing of interest rate changes. With fixed adjustment costs and ongoing uncertainty, changing the interest rate involves the exercise of an option. Optimal policy therefore has a “wait-and-see” component, which can be quantified using option pricing techniques. We show that increased uncertainty makes the central bank more reluctant to change its target interest rate, and argue that this helps explain recent observed deviations from the Taylor Rule. An optimal wait-and-see policy fits the target interest rates of the Fed and Bank of Canada better than the Taylor Rule.

Suggested Citation

  • Lei, Xiaowen & Tseng, Michael C., 2019. "“Wait-And-See” Monetary Policy," Macroeconomic Dynamics, Cambridge University Press, vol. 23(5), pages 1793-1814, July.
    • Handle: RePEc:cup:macdyn:v:23:y:2019:i:05:p:1793-1814_00
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    Cited by:

    1. Pompeo Della Posta & Roberto Tamborini, 2022. "The Eurozone as an Inflation Target Zone," CESifo Working Paper Series 10014, CESifo.
    2. Mota, Paulo R. & Fernandes, Abel L.C., 2022. "Is the ECB already following albeit implicitly an average inflation targeting strategy?," Research in Economics, Elsevier, vol. 76(3), pages 149-162.
    3. Della Posta, Pompeo & Tamborini, Roberto, 2023. "Does an inflation target zone help or hinder price stability?," Economic Modelling, Elsevier, vol. 129(C).

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