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Saturday, April 9, 2022

Fed Bullard predicted the US interest rate to be 3.5% by the end of 2022. How did he derive that rate?

https://www.stlouisfed.org/news-releases/2022/04/07/bullard-discusses-is-the-fed-behind-the-curve

How did Fed Bullard derive his 3.5% interest rate in 2022?

Bullard derived his 3.5% by tweaking the original Taylor rule.

Let's compute the target rate by using the original Taylor Rule before we work on Bullard's formula.

Neutral rate: 2.4%
GDPe: 3%

GDPt: 2.3%
Ie: 3.6% (Trimmed mean inflation as stated by Bullard)

It: 2% (As stated by Fed)

Original Taylor Rule: We derive the interest rate to be 3.55% in 2022 using the Taylor rule which is very close to Bullard's rate of 3.5%.

Bullard's formula: The neutral rate is replaced by the real interest rate (-0.5%) & inflation target (2%).  The parameter values are also changed to 0 and 1.25 respectively in the modified Taylor rule formula.

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