Taylor Rule And Inflation Targeting: Evidence From New Zealand

Abstract

New Zealand has the longest experience in inflation targeting. This policy was announced on March 4^th 1989 and was put into action on February 1^st 1990. In addition, New Zealand has the most clearly defined target and policy framework for achieving it. Thus, in order to conduct this policy, Taylor (1993a) defined an instrument, which is called «Taylor rule». This rule applied to the US economy becomes a reference for all subsequent studies, which look for the rule or the instruments to conduct an inflation targeting policy. The New Zealand reserve bank (NZRB) has focused rather more strongly than the Federal Reserve Bank (FED) on price stability. So, we show that the Taylor rule with standard parameter didn’t reflect the behaviours of the NZRB. In this paper, we try to find the best instrument, which reflects the behaviour of the RBNZ.  The methodology of our paper consists in comparing some rules, like Traditional Taylor rule (TTR) and some style rules, which are different. Our methodology consists to select the best rule using both the Fisher test and the information criteria. The estimation methods depend on the result of the exogeneity, autocorrelation and heteroscedasticity.  We find three important results. We show that the TTR with standard parameter used in the US doesn’t describe New Zealand monetary policy. Therefore, we show that the best rule, which reflects the behaviour of the NZRB, is a forward-looking rule. Finally, an important result, which we interpreted with some discretion, that the exchange rate must be included in the rule.