Taylor Rules and the Deutschmark Dollar Real Exchange Rate
Abstract
The authors explore the link between an interest rate rule
for monetary policy and the behavior of the real
exchange rate. The interest rate rule, in conjunction with some
standard assumptions, implies that the
deviation of the real exchange rate from its steady state depends on
the present value of a weighted sum
of inflation and output gap differentials. The weights are functions
of the parameters of the interest rate
rule. An initial look at German data yields some support for the
model.