PRICE STABILITY vs. OUTPUT STABILITY: TALES FROM THREE FEDERAL RESERVE ADMINISTRATIONS

Ümit ÖZLALE (Bilkent University)

This study disentangles the policy parameters from those describing the behaviour of the private sector by simultaneously estimating an empirical model for inflation and output along with a loss function for the monetary policy for the last three Federal Reserve administrations. There are three important results: First, the Federal Reserve appears to put more emphasis on price stability than output stability when the entire sample is considered. Second and more importantly, the loss function parameters exhibit a structural break at the time Paul Volcker was appointed as the chairman. The accommodative characteristics of monetary policy were replaced with a more active policy towards controlling inflation. Finally, interest rate smoothing is found to be an important feature of the monetary policymaking process for all three administrations.