Taylor rule

A monetary-policy guideline that relates a central bank’s policy interest rate to inflation and the gap between actual and potential output.

Nominal interest rate: An interest rate expressed in money terms, without adjustment for inflation. The rule recommends a nominal policy rate, whose real value depends on expected inflation.
John B. Taylor: An American economist known for research on monetary policy and the rule bearing his name. Taylor proposed the influential interest-rate guideline in a 1993 paper.
Federal Reserve: The central bank of the United States. Taylor’s original illustration used U.S. inflation, output, and federal funds rate data.
Price-level targeting: A monetary-policy strategy that aims to return the price level to a predetermined path. Unlike a standard Taylor rule, it responds to past price-level misses as well as current conditions.
Potential output: The level of production an economy can sustain without generating persistent inflationary pressure. It cannot be observed directly, so estimates of the output gap can change substantially.
Inflation gap: The difference between actual inflation and a specified inflation target. A positive inflation gap raises the recommended rate in standard Taylor-rule formulations.
Discretion versus rules: The debate over whether policymakers should follow systematic commitments or decide case by case. The rule emerged as a practical expression of systematic policy, without eliminating discretion.
Federal funds rate: The interest rate at which U.S. banks lend reserve balances to one another overnight. It is the U.S. policy rate commonly compared with the rule’s recommended rate.
Nominal GDP targeting: A monetary-policy strategy that stabilizes the path of nominal gross domestic product. It combines inflation and real-output information in a single target rather than separate rule terms.
Real-time data: Economic data as they were initially reported, before later revisions or fuller information became available. Policymakers must act on preliminary estimates that can produce a different rule recommendation later.

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