Structure Change in Interest Rate Policy:Evidence from Taiwan

This paper adopts a threshold autoregressive (TAR) model to capture the central bank interest rate reaction function of Taiwan. We modify the Taylor rule by using real effective exchange rate as the threshold variable. The TAR setting is able to recover the central bank’s nonlinear responses when facing different exchange rate level. This paper also discusses the procedure to determine an appropriate exchange rate target, estimate a TAR model, locate the threshold effect, and perform out-of-sample forecast. This paper shows different exchange rate targets change the result. Except the era after the 2008 financial crisis, it seems that Taiwan’s central bank behavior is consistent over the last decades while there were several economic crises and different chairmen.