Taylor Rule Calculator
Calculate optimal Federal Funds Rate using Taylor's monetary policy rule
Calculate Federal Funds Rate
Inflation Rate Gap
Annual inflation rate (CPI data)
Central bank inflation target (typically 2%)
Formula: Current Inflation - Target Inflation
Output Gap
Actual gross domestic product
Potential GDP at full employment
Formula: log(Current GDP) - log(Long-run GDP) × 100
Interest Rate Data
Current nominal interest rate (not adjusted for inflation)
Formula: Nominal Interest Rate - Current Inflation Rate
Taylor Rule Results
Complete Required Fields
Enter inflation rates, GDP data, and nominal interest rate to calculate the Federal Funds Rate using Taylor Rule
Example Calculation
US Economy Example
Current Inflation: 4.0%
Target Inflation: 2.0%
Current GDP: $2 trillion
Potential GDP: $3 trillion
Nominal Interest Rate: 5.0%
Step-by-Step Calculation
1. Inflation Gap = 4% - 2% = 2%
2. Output Gap = log(2T) - log(3T) = -0.18%
3. Real Interest Rate = 5% - 4% = 1%
4. Fed Rate = 1% + 4% + 0.5×2% + 0.5×(-0.18%)
Federal Funds Rate = 5.91%
Taylor Rule Components
Inflation Gap
Difference between actual and target inflation
Weight: 0.5
Output Gap
Deviation of actual from potential GDP
Weight: 0.5
Real Interest Rate
Nominal rate adjusted for inflation
Base component
Policy Implications
High inflation → Raise rates to cool economy
Low inflation → Lower rates to stimulate
High employment → Tighten monetary policy
Balance inflation control with employment
Understanding the Taylor Rule
What is the Taylor Rule?
The Taylor Rule, developed by economist John Taylor in 1993, is a guideline for central banks to set interest rates based on economic conditions. It suggests how the Federal Reserve should adjust the federal funds rate in response to changes in inflation and economic output.
Key Principles
- •Rates should rise when inflation exceeds target
- •Rates should rise when output exceeds potential
- •Equal weight given to inflation and output gaps
- •Provides systematic approach to monetary policy
Taylor Rule Formula
i = r + π + 0.5(π - π*) + 0.5(y - y*)
i: Federal funds rate
r: Real interest rate
π: Current inflation rate
π*: Target inflation rate
y: Log of current GDP
y*: Log of potential GDP
Important: The Taylor Rule is a guideline, not a strict rule. Central banks consider many factors beyond this formula when setting policy.
For Central Bankers
The Taylor Rule provides a systematic framework for monetary policy decisions, helping maintain price stability and full employment objectives.
For Economists
Useful for analyzing whether current monetary policy is appropriate given economic conditions and for forecasting future interest rate changes.
For Investors
Understanding Taylor Rule calculations helps predict Federal Reserve actions and their impact on bond markets, currencies, and investment strategies.
Limitations of the Taylor Rule
- ⚠️Limited guidance during financial crises
- ⚠️Assumes constant policy parameters
- ⚠️Doesn't account for financial stability concerns
- ⚠️May conflict with other economic objectives