Bias inFederalReserveinflationforecasts:IstheFederalReserve irrationalorjustcautious

Inflation forecastsoftheFederalReserveseemtohavesystematicallyunder-predicted inflationfromthefourthquarterof1968untilVolcker’sappointmentasChairman,and to systematicallyover-predictitafterwardsuntilthesecondquarterof1998. Furthermore, underquadraticloss,commercialforecastsseemtohaveinformation not containedinthoseforecasts.Toinvestigatethecauseofthisapparentirrationality, this paperrecoversthelossfunctionimpliedbyFederalReserve’sinflationforecasts.The results suggestthatthecostofhavinginflationaboveanimplicittime-varyingtarget waslargerthanthecostofhavinginflationbelowitfortheperiodsinceVolcker,and that theoppositewastrueforthepre-Volckerera.Oncetheseasymmetriesaretaken into account,theFederalReserve’sinflationforecastsarefoundtoberational