In 2014AM paper, question 4B, it used the below Taylor rule formula:
R(target) = R(neutral)+0.5(GDP_expected - GDP_trend)+0.5(Inflation_forecast - inflation_target)
In the 2020 curriculum the below formula is used:
R(target) = r(neutral) + Inflation_forecast + 0.5(GDP_expected - GDP_trend)+0.5(Inflation_forecast - inflation_target)
Has there been a change in the curriculum? Asking because the two formulas would result in a different answer for this very question, even though the they are essentially the same thing.
It depends whether the questions ask for “in real terms” then use:
R(target) = R(neutral) +0.5(GDP_expected - GDP_trend)+0.5(Inflation_forecast - inflation_target)
or if it asks for nominal terms (includes inflation), then use:
R(target) = r(neutral) + Inflation_forecast + 0.5(GDP_expected - GDP_trend)+0.5(Inflation_forecast - inflation_target)
According to this particular question I mentioned, it gives you the previous and new inflation and GDP expectations and asks you to calculate the change in the policy rate, therefore using these 2 formulas will result in different answers
Are you sure it’s not R(target) = r(neutral) + Inflation_TARGET + 0.5(GDP_expected - GDP_trend)+0.5(Inflation_forecast - inflation_target)?
In which case the answer to 4B on 2014 isn’t impacted whether you include it or not. Feels like it makes more intuitive sense given the 0.5(Inflation_forecast - inflation_target) bit is already doing the adjustment for a delta between target and forecast inflation.
It’s r(neutral) + Inflation_FORECAST + 0.5(GDP_expected - GDP_trend)+0.5(Inflation_forecast - inflation_target)
The case scenario stated that “The central bank has stated publicly that it expects no changes in the GDP trend growth rate, target inflation rate, or neutral short-term interest rate.”
So the r(neutral) + Inflation_FORECAST remains unchanged from previous forecast to updated forecast.
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Aha missed that! Thanks for pointing it out!