Comparison of Monetary Policy Rules Using a Czech Economy Model

Three alternative policy rules are contrasted in a model framework in this paper. Such simulation and their results provide a background for policy debate on the properties of alternative strategies of Czech monetary policy. The specific features of an economic transition period are reflected in an extended set of measures when comparing the policy rules. The paper presents the results of these simulations, including tests of sensitivity to calibration, and summarizes the conclusions. First, any policy rules that combine several targets are inferior to inflation and exchange-rate rules since they are less efficient in ensuring nominal convergence, and more costly in terms of output, interest-rate and external-balance volatility. Second, exchange-rate rules are less efficient and less costly in terms of output volatility. Inflation policy rules are more efficient and less costly in terms of interest-rate volatility. This result illustrates that it is very difficult to hit upon a single superior strategy. The final choice depends on preferences. Third, exchange-rate and inflation policy rules produce gradual real appreciation. Under exchange-rate rules, real appreciation is due to the inflation differential. Under inflation rules, it is due to gradual nominal appreciation. This result, it is argued, supports the author?s assertion that it is not possible for a central bank to fix any real variable with its strategy.