A Useful Rule for Monetary Policy

As the recovery continues to gain steam in the months ahead, inflation will return towards two percent, real GDP will converge back to potential, and the Taylor rule will call for more substantial hikes in the funds rate target. Higher interest rates are never popular, but when the time comes, the Fed can use the Taylor rule to make clear that those rate increases are necessary to bring monetary policy back to its normal, long-run stance and prevent excessive inflation. Thus, in good times as in bad, the Taylor rule would help the Fed explain its policies to lawmakers and the American public.