Taylor Rule: The Information Content From FOMC Transcripts

Abstract

Do Federal Open Market Committee (FOMC) discussions contain additional information for Taylor rule estimation? While researchers usually estimate a Taylor rule with official forecasts of the output gap and inflation, this paper sheds light on the importance of additional information contained in the FOMC discussions. Using textual analysis techniques I detect all economic phrases from FOMC transcripts and assign the tone to these phrases. Afterwards, I use Bayesian LASSO with time-varying parameters and show that the Fed changes its federal funds target also in response to FOMC members’ uncertainty about inflation expectations and financial markets.