Study On The Adaptability Of The Nonlinear Monetary Policy Rule In China

Our country’s monetary policy is always with strong feature of discretion. Discretionary monetary policy means that the central bank takes discretionary measures in accordance with the situation of economic to achieve the established monetary policy goal. But in recent years, some studies show that the monetary policy rule in China has certain applicability. The monetary policy rule means the government establishes a commitment mechanism, which can ease the inconsistency caused by the discretionary monetary rule. Currently scholar’s research is mainly in view of the traditional linear Taylor rule, monetary authorities according to inflation and output of the actual value of the gap with the target value to adjust interest rates. The linear Taylor rule is that when the aggregate supply curve and demand curve is linear format, the optimal monetary policy rule by minimizing the loss function of the central bank, the central bank loss function is a linear combination of the inflation gap and output gap. However in reality, the central bank often exist asymmetric preferences, namely in the loss function the inflation and the output gap deviate upward and downward deviation from different weights, which led to the nonlinearity of the monetary policy rule. This shows that the nonlinear monetary policy rules can reflect the real behavior of monetary policy operation in China.This paper elaborate the nonlinear monetary policy rules theory from two aspects:nonlinear total supply curve and the central bank’s asymmetric loss function. In the mean time, empirical estimation of our country monetary policy rules using quarterly data, and inspection the assumption of central bank’s asymmetry preferences. The results show that the central bank has asymmetric preference for inflation and total output, and negative preference exists for inflation bias, and there is a positive preference for the output gap. Not only the inflation gap and the output gap have significant effect to interest rate, the square of the inflation gap and the square of output gap is also have significant influence to interest rate. It is proved that the nonlinearity of the China’s monetary policy rules.This paper first introduces the theoretical framework of monetary policy. The traditional linear Taylor rule is obtained by setting the aggregate supply curve and demand curve linear formats, and the central bank loss function is a quadratic loss function, under the constraints of the corresponding economic conditions, through minimizing the central bank loss function, we can get the optimal interest rate rule. On the basis of which we can demonstrate the nonlinear monetary policy rule by setting a nonlinear aggregate supply curve or a asymmetric central bank loss function. This paper mainly studies the nonlinear of monetary policy rules resulting by central bank’s asymmetric preferences, and get the nonlinear interest rate reaction function model which including the square of inflation gap and the square of output gap. In the empirical analysis part, the GMM method is used to test model. The results show that the model is well fit our country’s monetary policy operation, and the coefficient of the square of inflation gap and output gap square are significant. It is proved that the China’s monetary policy rules exist significant nonlinear. The central bank exist both the inflationary and output gap asymmetric preferences and the two preferences in the opposite direction, negative preference exists for inflation bias, and there is a positive preference for the output gap.The innovation of this paper is to break the traditional linear Taylor rule method and study the nonlinear of monetary policy rules. In addition, this paper comprehensively considers the two factors that cause the nonlinear of monetary policy rule, that is, the nonlinear and of Phillips curve, and the asymmetry preference of the central bank. The loss function is expressed as a non symmetric form of the central bank’s inflation and output gap by using linear exponential form.The main shortcoming of this paper is that there is no in-depth study on the long-term equilibrium real interest rate and inflation target. In addition to the construction of nonlinear monetary policy rule model, this paper does not consider the exchange rate factors, but with the further opening of China’s financial market, China’s economy has been closely linked with the world economy, exchange rate fluctuations, exchange rate stability and other issues will be the impact on China’s monetary policy operation.