Federal reserve monetary policy under the taylor rule: Theoretical framework, empirical analysis, and deviations

Rutgers University – New Brunswick, 57 US Highway 1, New Brunswick City, Middlesex County, New Jersey, United States

^* Corresponding author: cc2378@scarletmail.rutgers.edu

Abstract

This paper investigates the application of the Taylor Rule in guiding the Federal Reserve’s interest rate decisions. It summarizes the definition, components, and factors of the Taylor Rule. In addition, it compares the patterns of the formula of the Taylor Rule in different periods. Using historical data from 1960 to 2024, this study evaluates whether the Federal Reserve’s actual interest rate decisions align with the prescriptions of the Taylor Rule. The analysis also examines the degree of deviation in the periods of various disasters, such as the 2008 banking crisis and the SARS-CoV-2 pandemic. In addition, it examines the differences between the monetary policy under each Fed Chair. The study also explores the impact of these deviations on key economic variables, including inflation, GDP growth, and financial market stability. Additionally, it explores potential models for improving the forecasting power. The findings highlight the challenges of strictly adhering to the Taylor Rule, particularly during crises, and provide insights into the flexibility required in modern monetary policy.