2007 Reports

Forecast targeting as a monetary policy strategy: Policy rules in practice

Woodford, Michael

Forecast targeting is an innovation in central banking that represents an important step toward more rule-based policymaking, even if it is not an attempt to follow a policy rule of any of the types that have received primary attention in the theoretical literature on optimal monetary policy. This paper discusses the extent to which forecast targeting can be considered an example of a policy rule, and the conditions under which it would represent a desirable rule, with a view to suggesting improvements in the approaches currently used by forecast-targeting central banks. Particular attention is given to the intertemporal consistency of forecast-targeting procedures, the assumptions about future policy that should be used in constructing the forecasts used in such procedures, the horizon with which the target criterion should be concerned, the relevance of forecasts other than the inflation forecast, and the degree of robustness of a desirable target criterion for monetary policy to changing circumstances.