Optimal monetary policy: Forward-looking behavior shapes economic responses.
The paper explores how looking ahead affects the best way for central banks to set interest rates. They found that when people and businesses plan for the future, the central bank should adjust interest rates less in response to changes in inflation and economic output. However, if interest rates are based on future real interest rates, the central bank should react more strongly to changes in inflation and output. Additionally, a more forward-looking Phillips curve suggests that the central bank should respond less to inflation but more to changes in economic output.