Is taylor rule descriptive or prescriptive?

In his latest blogpost, John Taylor says it is prescriptive. People wrongly think it is descriptive as in explains a historic event:

  • Monetary policy rules can be used both for prescriptive and descriptive purposes, but it’s important to be clear about which purpose one has in mind. A policy rule estimated over a period which included the Great Inflation of the 1970s, for example, might be a good description of policy during that period, but it would be a terrible prescription for policy today. Similarly, a policy rule estimated over a period which included the 2003-2005 period, when rates are unusually low, would not be a good prescription, in my view, for policy today.
  • Misunderstandings about whether a particular rule is meant to be descriptive or prescriptive can thus lead to policy mistakes. Consider this passage from the March 18, 2011 issue of JP Morgan’s Global Data Watch (p 16): “The original Taylor rule was descriptive and meant to match how Fed policy was set in the 1987-1992 period. Subsequently, some researchers found that variants of Taylor rules were optimal in certain economic models, and so could also be prescriptive. However, those classes of models were usually quite restrictive, such as assuming policy was not at the zero bound, or that the central bank only tried to influence the short end of the curve. In fact, very few optimal policy models even incorporate multi-period interest rates.”

  • But the Taylor rule was not meant to be descriptive as I made clear in my original paper. Rather it was very explicitly meant to be prescriptive. I derived it by experimenting with different types of rules in stochastic simulations of different monetary models, including my multi-country model at Stanford, and by studying the results of other people’s simulations. This pinned down the left-hand side variable and the right-hand side variables, and led to simple functional forms and coefficients.
  • Hmm. In his class he clarifies the point:

    When teaching Economics 1, I stress the difference between positive (descriptive) economics and normative (prescriptive) economics. This discussion of policy rules illustrates the importance of understanding the difference in practice. You can’t justify QE2 by saying that the interest rate is negative with the prescriptive policy rule I proposed, because the implied rate is not negative, it’s close to 1 percent.

    Leave a Reply

    Fill in your details below or click an icon to log in: Logo

    You are commenting using your account. Log Out /  Change )

    Google photo

    You are commenting using your Google account. Log Out /  Change )

    Twitter picture

    You are commenting using your Twitter account. Log Out /  Change )

    Facebook photo

    You are commenting using your Facebook account. Log Out /  Change )

    Connecting to %s

    This site uses Akismet to reduce spam. Learn how your comment data is processed.

    %d bloggers like this: