Introduction

One of the main issues scholars debate over is whether monetary policy should be conducted in accordance with a uniform rule, or whether the policy should be conducted in a discretionarily fashion by central banks. Two types of monetary policy rules can be found in the literature. One is the purely theoretical derivation of the optimal monetary policy rule, which can be obtained by analysing the optimal behaviour of central banks in subject to the loss function and macroeconomic restraints. The second type of policy comprises setting the monetary policy rule exogenously. This type of monetary policy rule includes the Taylor rule. The Taylor rule was introduced by Stanford economist John Taylor in order to set and adjust interest rates in such a way that it stabilizes the economy in the short-term, and still maintain long-term growth. To a large degree, the estimated Taylor rule can be considered as a benchmark for the central banks to follow when conducting monetary policies.

Many central banks’ conduct of monetary policy, including the Federal Reserve, Bank of England, Bank of Japan, the Bundesbank, and European Central Bank, has been examined according to the Taylor rule (McCallum 1993, Judd, Rudebusch 1998, Gerlach, Schnabel 2000, McCallum 2000, Nelson Edward E 2000) Although the research about the monetary policy conduct in major industry countries has proliferated, little English written literature can be found on the monetary policy analysis, using the Taylor rule, in transition economies and emerging market economies, like China.