Robust optimal monetary policy in a forward-looking model with parameter and shock uncertainty

This paper characterizes a robust optimal policy rule in a simple forward-looking model, when the policymaker faces uncertainty about model parameters and shock processes. We show that the robust optimal policy rule is likely to involve a stronger response of the interest rate to fluctuations in inflation and the output gap than is the case in the absence of uncertainty. Thus parameter uncertainty alone does not necessarily justify a small response of monetary policy to perturbations. However, uncertainty may amplify the degree of 'super-inertia' required by optimal monetary policy. We finally discuss the sensitivity of the results to alternative assumptions. Copyright © 2007 John Wiley & Sons, Ltd.