• The Taylor Rule is a formula that links the central bank discount rate to inflation and economic growth.

  • Developed by economist John Taylor in 1993, it assumes that the equilibrium federal funds rate is 2% above the annual rate of inflation.
  • The Taylor Rule adjusts the equilibrium rate based on the deviation of inflation and real GDP growth from central bank targets.
  • Exceeding inflation and growth targets raises the discount rate in accordance with the Taylor rule, while a deficit lowers it.
  • The basic Taylor rule formula does not take into account the ineffectiveness of negative interest rates or alternative monetary policy instruments such as asset purchases.
  • The Taylor rule formula makes inflation the most important factor in setting rates, while the Federal Reserve has a dual mandate to ensure price stability and maximum employment.