Using Taylor's rule,when the equilibrium real federal funds rate is 3 percent,the positive output gap is 2 percent,the target inflation rate is 1 percent,and the actual inflation rate is 2 percent,the nominal federal funds rate target should be
A)5 percent.
B)5.5 percent.
C)6 percent.
D)6.5 percent.

Question

Quizplus · Accepted Answer

According to Taylor's rule, the nominal federal funds rate target is calculated as follows:

Nominal federal funds rate target= equilibrium real federal funds rate+ inflation target+ 0.5*(inflation gap)+0.5*(output gap)

In this case,

Equilibrium real federal funds rate= 3%
Inflation target= 1%
Inflation gap= actual inflation rate - inflation target= 2% - 1% = 1%
Output gap= positive output gap= 2%

Therefore,

Nominal federal funds rate target= 3% + 1% + 0.5*(1%) + 0.5*(2%)= 6.5%

Hence, the choice is D, which is 6.5 percent.

Using Taylor's Rule,when the Equilibrium Real Federal Funds Rate Is