Pearson eText Economics of Money, Banking and Financial Markets, The, Business School Edition -- Instant Access (Pearson+)
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Chapter 19, Problem 23Q

Introduction:

Taylor’s rule is a proposed guideline which describes the interest rate decisions of central banks. It is based on the following three factors:

    1) Targeted versus actual inflation levels;

    2) Full employment versus actual employment levels;

    3) The short-term interest rate appropriately consistent with full employment

According to Taylor’srule the federal funds rate target is calculated using the following formula −

Federal Funds Rate Target = Inflation Rate + Equilibrium Real Fed Funds Rate + ½ (Inflation Gap) + ½ (Output Gap)

To determine

Requirement 1: Fed funds rate according to Taylor’s rule when unemployment rises due to recession

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