Solution:
(a) target for the federal funds rate for October 2012 is:
Taylor rule of interest rate calculation developed by John Taylor , in order to find the Federal fund rate adjusted with inflation rate with formula below as:
Federal fund rate = equilibrium real fed rate + inflation rate + 1/2 * inflation gap + 1/2 * Output gap
Federal funds rate = 2% + 2% + 1/2*(1.2% – 2%)+ 1/2*(-5.9%) = 0.65%.
(b) compare targeted federal funds rate calculated using the Taylor rule to the actual federal funds rate of 0% to 0.25% at the time :
The calculated Taylor rule federal funds rate target exceeds the actual target range of
0.00 to 0.25%.
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