Optimal fixed rules and simple feedback laws in the design of economic policy

The constancy parameter of fixed-rate-of-growth rules and the parameters of simple feedback laws, linking policy instruments to specified endogenous variables, can be determined optimally within a policy optimization framework. An approach for doing this is described along with results using the National Institute of Economic and Social Research nonlinear econometric model of the U.K. The framework is also extended to rational expectations. The effect of an optimal fixed-rate-of-growth monetarist rule is illustrated in an example incorporating the credible announcement of monetary targets. This is evaluated against a strategy derived without the assumption of announcement effects. The use of indicators is also discussed to provide an empirical example for parametrized optimal feedback laws. Exchange rate indicators are derived and compared with open-loop policies. Robust control extensions are suggested and Monte Carlo simulations are used to test the behaviour of the policies in the presence of stochastic disturbances.

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