We then employ this model to explore the expected behavior of economic variables, including the policy rate, under alternative policy rules. The policy rules help to benchmark not only the current stance of the federal funds rate but also guidance on how the path of policy is likely to evolve in the context of the model. Such an exercise as part of a more comprehensive quarterly monetary policy report would enhance communication and promote a more systematic approach to monetary policy.

We begin with an overview of the economy and then discuss the benchmark model we use to generate our forecasts with different policy rules. The remainder of the report highlights the outcomes of different robust policy rules and discusses why policymakers might choose to deviate from the rules.

Economic Overview

Despite weaker foreign growth and financial market volatility, to name two of many recent headwinds, the U.S. economy continues to chug along, fueled by solid fundamentals. After lackluster real gross domestic product growth of 1.1 percent in the fourth quarter of 2015, the economy now appears to be growing modestly, although still somewhat below its trend pace of 2.0 percent. What we consider a more accurate picture of U.S. economic activity, GDPplus, puts fourth quarter growth at 1.7 percent.2 In the current quarter, activity appears to be rebounding, with nowcasts generally placing first quarter 2016 growth at approximately 2.0% and forecasts showing slight acceleration over the remainder of the year.

[1]The views expressed here are those of the authors and do not necessarily reflect those of the Federal Reserve Bank of Philadelphia or the Federal Reserve System.

[2]For a detailed analysis of this variable, see “Real-Time Performance of GDPplus and Alternative Model-Based Measures of GDP: 2005–2014.”