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Interest Rate Benchmarks Jeffrey M. Lacker September 2, 2016 An Interest Rate Benchmark: the Taylor Rule FFR = expected inflation + “natural real rate” + 𝜶𝜶1 (inflation gap) + 𝜶𝜶2 (employment gap) 2 Percent Inflation 16 16 14 14 12 12 10 10 8 8 6 6 CPI 4 4 2 2 GDP Deflator Core PCE 0 -2 1960 0 -2 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 Sources: BEA & BLS via Haver Analytics 3 Natural Rate of Interest 8 8 7 7 6 6 5 5 4 4 Laubach-Williams Percent 3 3 2 2 1 1 Lubik-Matthes 0 0 -1 -1 -2 -2 -3 -3 -4 1961 1965 1969 1973 1977 1981 1985 1989 1993 1997 2001 2005 2009 2013 -4 2017 Sources: Laubach & Williams (2003), Lubik & Matthes (2015) 4 Federal Funds Rate vs Benchmark 22 22 20 20 18 18 16 16 14 14 Actual Fed Funds Rate 12 12 Percent 10 10 8 8 Laubach & Williams 6 6 4 4 2 2 R*=2 0 0 -2 -2 -4 -4 -6 -6 -8 1960 -8 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 Sources: BLS, Board of Governors, BEA, CBO via Haver Analytics. Laubach & Williams (2003) 5