The Taylor Rule – an Empirical Review of China’s Monetary Policy
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The Taylor ruleAn empirical review of China’s monetary policy15/05/2015[pic 1][pic 2]IntroductionOne of the main issues scholars debate over is whether monetary policy should be conducted in accordance with a uniform rule, or whether the policy should be conducted in a discretionarily fashion by central banks. Two types of monetary policy rules can be found in the literature. One is the purely theoretical derivation of the optimal monetary policy rule, which can be obtained by analysing the optimal behaviour of central bank in subject to the loss function and macroeconomic restraints. The second type of policy comprises setting the monetary policy rule exogenously. One of the more known examples of this exogenous rule setting is Taylor rule. The Taylor rule was introduced by Stanford economist John Taylor in order to stipulate by how much the central bank should adjust nominal interest rates in response to changes in the inflation rate, the real GDP, and other economic variables depending on which Taylor rule you use . To a large degree, the estimated Taylor rule can be considered as a benchmark or starting point for the central bank when investigating possible monetary policies.Many central banks’ conduct of monetary policy, including the Federal Reserve, the Bank of England, the Bank of Japan, the Bundesbank, and the European Central Bank, has been examined according to the Taylor rule (McCallum 1993; Judd, Rudebusch 1998; Gerlach, Schnabel 2000; McCallum 2000; Nelson Edward E 2000). Although the research about the monetary policy conduct in major industrial countries has proliferated, little English written literature can be found on the monetary policy, using the Taylor rule, in transition economies and emerging market economies, about, for example, China.The lack of studies regarding this rule application to the interest rate in China, in the English written literature, could reflect the obstacles we came across in conducting our research. In the first place, the monetary policy in a transition and emerging market economy tend to lack consistency. This may be due to the fact that the economy in these countries is likely to be under reconstruction or major reform. Indeed, China is currently undergoing substantial market-oriented reform. Moreover, data availability for non-Mandarin speakers is still far from satisfactory. These practical obstacles could prevent scholars from doing research in these areas. However, in this paper we try to overcome these boundaries, hence this paper its main purpose is to estimate how well the Taylor rule estimates China’s monetary policies, during the period 2000:1 – 2015:1.

The remaining consists of 4 sections. Section 1 will provide a brief overview of the literature. Section 2 describes the data used. Section 3 will provide the econometric model used. Section 4 covers the results obtained. Section 5 will conclude this empirical paper with a summary.Literature overviewAs mentioned in the introduction a substantial amount of research has been focussed on monetary policy in macroeconomic and monetary economics. In terms of Chinese monetary policy rule, there is has been little English literature on the application of Taylor rule to China. On the other hand, the Chinese literature on studying monetary policy effectiveness and monetary policy rule is increasing after 2000. Ping and Xiong (2002) is the first Chinese paper, we could find, to conduct the empirical study of Taylor rule with Chinese data and their viewpoint is that Taylor rule is measure Chinese monetary policy.  Regarding the little English written literature there is, the overall consensus is that the Taylor rule can accurately describes the PBC monetary policy (Fan, Yu & Zhang 2011). However, no recent published English literature can be found, which is slightly odd considering that China wants to grow into a more consumer driven, rather than an investment driven, economy, which has to be achieved via political and monetary policies. An important piece of information from the literature is that PBC claims that its main monetary policy tool is the money supply, while other instruments, such as the benchmark interest rates, open market operations are used as complimentary tools to protect the money supply target (Fan, Yu & Zhang 2011).         The data used in our analysis are quarterly, which span from 2000:1 to 2015:1. The Peoples Bank of China (PBC) has used and is still using multiple policy instruments which include benchmark interest rates, required reserve ratios and refinancing banks. In China, interest rates decisions are taken by The Peoples Bank of China Monetary Policy Committee. The PBC oversees two nominal benchmark interest rates: one year lending and one year deposit rate. In this paper we focus on the lending rate, since the two rates are highly correlated   due to data availability, betterand because of the fact that  has been continuously used as an instrument since 1986 (Xiong 2012).

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Taylor Rule And Monetary Policy15/05/2015. (June 20, 2021). Retrieved from https://www.freeessays.education/taylor-rule-and-monetary-policy15-05-2015-essay/