nep-mon New Economics Papers
on Monetary Economics
Issue of 2012‒06‒25
23 papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Commodities and Monetary Policy: Implications for Inflation and Price Level Targeting By Donald Coletti; René Lalonde; Paul Masson; Dirk Muir; Stephen Snudden
  2. Does Central Bank Financial Strength Matter for Inflation? An Empirical Analysis By Sona Benecka; Tomas Holub; Narcisa Liliana Kadlcakova; Ivana Kubicova
  3. Euro area inflation as a predictor of national inflation rates By Antonella Cavallo; Antonio Ribba
  4. Channels of Monetary Transmission in the CIS By Jamilov, Rustam
  5. Divisia monetary aggregates for the GCC countries By Alkhareif, Ryadh; Barnett, William A.
  6. The changing international transmission of US monetary policy shocks: is there evidence of contagion effect on OECD countries By Irfan Akbar Kazi; Hakimzadi Wagan; Farhan Akbar
  7. Money, Financial Stability and Efficiency By ALLEN, Franklin; CARLETTI, Elena; GALE, Douglas
  8. A New Model Of Trend Inflation By Chan, Joshua; Koop, Gary; Potter, Simon
  9. Monetary Conditions and Banks' Behaviour in the Czech Republic By Adam Gersl; Petr Jakubik; Dorota Kowalczyk; Steven Ongena; Jose-Luis Peydro Alcalde
  10. When capital adequacy and interest rate policy are substitutes (and when they are not) By Stephen G Cecchetti; Marion Kohler
  11. Inferring monetary policy objectives with a partially observed state By Givens, Gregory; Salemi, Michael
  12. Systemic financial fragility and the monetary circuit: a stock-flow consistent Minskian approach By Marco Passarella
  13. Money Still Talks - Is Anyone Listening? By David Laidler
  14. Inflation Dynamics in the Presence of Informal Labour Markets By Paul Castillo; Carlos Montoro
  15. Innocent Bystanders? Monetary Policy and Inequality in the U.S. By Coibion, Olivier; Gorodnichenko, Yuriy; Kueng, Lorenz; Silvia, John
  16. Modern Monetary Theory: A Debate By Brett Fiebiger; Scott Fullwiler; Stephanie Kelton; L. Randall Wray
  17. Effects of international monetary integration on inflation, economic growth and current account By Stanisic, Nenad
  18. Evidence on the portfolio balance channel of quantitative easing By Daniel L. Thornton
  19. Kiwi drivers the New Zealand dollar experience By Chris McDonald
  20. The Failure of Financial Macroeconomics and What to Do About it By Jean-Bernard Chatelain; Kirsten Ralf
  21. The Technology and Economics of Coinage Debasements in Medieval and Early Modern Europe: with special reference to the Low Countries and England By John H. Munro
  22. Expectation Formation and Monetary DSGE Models: Beyond the Rational Expectations Paradigm By Fabio Milani; Ashish Rajbhandari
  23. A New Structural Break Model with Application to Canadian Inflation Forecasting By John M. Maheu; Yong Song

  1. By: Donald Coletti; René Lalonde; Paul Masson; Dirk Muir; Stephen Snudden
    Abstract: We examine the relative ability of simple inflation targeting (IT) and price level targeting (PLT) monetary policy rules to minimize both inflation variability and business cycle fluctuations in Canada for shocks that have important consequences for global commodity prices. We find that commodities can play a key role in affecting the relative merits of the alternative monetary policy frameworks. In particular, large real adjustment costs in energy supply and demand induce highly persistent cost-push pressures in the economy leading to a significant deterioration in the inflation – output gap trade-off available to central banks, particularly to those pursuing price level targeting.
    Keywords: Economic models; Inflation and prices; International topics; Monetary policy framework
    JEL: E17 E31 E37 E52 F41 Q43
    Date: 2012
  2. By: Sona Benecka; Tomas Holub; Narcisa Liliana Kadlcakova; Ivana Kubicova
    Abstract: This paper analyses empirically the link between central bank financial strength and inflation. The issue has become very topical in recent years as many central banks have accumulated large financial exposures and the risk of losses has risen. We conclude that even though some estimates show a statistically significant and potentially non-linear negative relationship between several measures of central bank financial strength and inflation, this link appears rather weak and not as robust as suggested by the previous - very limited - literature. In general, other inflation determinants play a much more important and robust role.
    Keywords: Central bank financial strength, central bank independence, inflation, monetary policy, seigniorage.
    JEL: E31 E52 E58
    Date: 2012–05
  3. By: Antonella Cavallo; Antonio Ribba
    Abstract: The stability of inflation differentials is an important condition for the smooth working of a currency area, such as the European Economic and Monetary Union. In the presence of stability, changes in national inflation rates, while holding Euro-area inflation fixed contemporaneously, should be only transitory. If this is the case, the rate of inflation of the whole area can also be interpreted as a predictor, at least in the long run, of the different national inflation rates. However, in this paper we show that this condition is satisfied only for a small number of countries, including France and Italy. Better convergence results for inflation differentials are, instead, found for the USA.
    Keywords: Inflation differentials, euro area, structural Cointegrated VARs, permanent-transitory decompositions
    JEL: E31 C32
    Date: 2012–05
  4. By: Jamilov, Rustam
    Abstract: Twenty years have passed since the breakdown of the Soviet Union, and it is time to draw a concluding line for monetary policy efficiency in the Commonwealth of Independent States (CIS). We propose a comprehensive treatment of the subject for nine members of the CIS for the period of 2000-2009. Four transmission channels are investigated: interest rate channel, exchange rate channel, bank lending channel, and monetary channel. First, we design a VAR framework for each CIS member-state and investigate the short-run dynamics of the impact of each of the four transmission channels on domestic output and inflation. Second, we construct Auto Regressive Distributed Lag Models (ARDL) in order to study the country-wise efficiency of transmission channels in the long run. Finally, we employ a panel data fixed effects method to show how the CIS behaves as a region. Our short-run individual country analysis yields highly heterogeneous results. In the long run, however, it’s apparent that broad monetary base (M2) is the most influential determinant of aggregate output. Inflation is affected the most by the refinancing rate and the flow of remittances. For both output and inflation, exchange rate plays a role of a supporting channel.
    Keywords: CIS; Monetary Transmission; VAR; ARDL Cointegration; Panel Data
    JEL: O53 E5 E52 E40
    Date: 2012–06–20
  5. By: Alkhareif, Ryadh; Barnett, William A.
    Abstract: This paper builds monthly time-series of Divisia monetary aggregates for the Gulf area for the period of June 2004 to December 2011, using area-wide data. We also offer an "economic stability" indicator for the GCC area by analyzing the dynamics pertaining to certain variables such as the dual price aggregates, aggregate interest rates, and the Divisia aggregate user cost growth rates. Our findings unfold the superiority of the Divisia indexes over the officially published simple-sum monetary aggregates in monitoring the business cycles. There is also direct evidence on higher economic harmonization between GCC countries-- especially in terms of their financial markets and the monetary policy. Monetary policy often uses interest rate rules, when the economy is subject only to technology shocks. In that case, money is nevertheless relevant as an endogenous indicator (Woodford, 2003). Properly weighted monetary aggregates provide critical information to policy makers regarding inside liquidity created by financial intermediaries. In addition, policy rules should include money as well as interest rates, when the economy is subject to monetary shocks as well as technology shocks. The data show narrow aggregates growing while broad aggregates collapsed following the financial crises. This information clearly signals problems with the financial system's ability to create liquidity during the crises.
    Keywords: Divisia monetary aggregates; GCC countries; index number theory; monetary aggregation
    JEL: E51 E58 E52 E41
    Date: 2012–05–18
  6. By: Irfan Akbar Kazi; Hakimzadi Wagan; Farhan Akbar
    Abstract: We study the changing international transmission of US monetary policy shocks to 14 major OECD countries over the period 1981Q1-2010Q4. We use a time-varying parameter factor augmented VAR approach to study the effective federal funds rate shocks together with a large data set of 265, major financial, macroeconomic and trade variables. Our main findings are as follows. First, negative US monetary policy shocks have considerable negative impact on GDP growth in the US, Canada, Japan and Sweden whereas there is positive impact on GDP growth in the most of the other member countries. Second, the transmission to GDP growth has increased in OECD countries since the early 1980s. Third, the transmission of US monetary policy shocks to major economic and financial variables varies in magnitude during financial turmoil periods than normal periods such as the gross fixed capital formation residential, turned most negative over the second quarter after the initial shock in the US, Canada, Germany, Japan, Switzerland and New Zealand mainly during 2008Q4. Asset prices, interest rates and trade channel seem to play major role in propagation of monetary policy shocks.
    Keywords: Monetary policy shocks, financial markets, international transmission channels, global integration, turmoil periods, time-varying parameter factor augmented VAR.
    JEL: F1 F4 F15 C3 C5
    Date: 2012
  7. By: ALLEN, Franklin; CARLETTI, Elena; GALE, Douglas
    Abstract: Most analyses of banking crises assume that banks use real contracts. However, in practice contracts are nominal and this is what is assumed here. We consider a standard banking model with aggregate return risk, aggregate liquidity risk and idiosyncratic liquidity shocks. We show that, with non-contingent nominal deposit contracts, the first-best efficient allocation can be achieved in a decentralized banking system. What is required is that the central bank accommodates the demands of the private sector for fiat money. Variations in the price level allow full sharing of aggregate risks. An interbank market allows the sharing of idiosyncratic liquidity risk. In contrast, idiosyncratic (bank-specific) return risks cannot be shared using monetary policy alone; real transfers are needed.
    Date: 2012
  8. By: Chan, Joshua; Koop, Gary; Potter, Simon
    Abstract: This paper introduces a new model of trend (or underlying) inflation. In contrast to many earlier approaches, which allow for trend inflation to evolve according to a random walk, ours is a bounded model which ensures that trend inflation is constrained to lie in an interval. The bounds of this interval can either be fixed or estimated from the data. Our model also allows for a time-varying degree of persistence in the transitory component of inflation. The bounds placed on trend inflation mean that standard econometric methods for estimating linear Gaussian state space models cannot be used and we develop a posterior simulation algorithm for estimating the bounded trend inflation model. In an empirical exercise with CPI inflation we find the model to work well, yielding more sensible measures of trend inflation and forecasting better than popular alternatives such as the unobserved components stochastic volatility model.
    Keywords: Constrained inflation, non-linear state space model, underlying inflation, inflation targeting, inflation forecasting, Bayesian,
    Date: 2012
  9. By: Adam Gersl; Petr Jakubik; Dorota Kowalczyk; Steven Ongena; Jose-Luis Peydro Alcalde
    Abstract: This paper examines the impact of monetary conditions on the risk-taking behaviour of banks in the Czech Republic by analysing the comprehensive credit register of the Czech National Bank. Our duration analysis indicates that expansionary monetary conditions promote risk-taking among banks. At the same time, a lower interest rate during the life of a loan reduces its riskiness. While seeking to assess the association between banks’ appetite for risk and the short-term interest rate we answer a set of questions related to the difference between higher liquidity versus credit risk and the effect of the policy rate conditioned on bank and borrower characteristics.
    Keywords: Business cycle, credit risk, financial stability, lending standards, liquidity risk, monetary policy, policy interest rate, risk-taking.
    JEL: E5 E44 G21
    Date: 2012–01
  10. By: Stephen G Cecchetti; Marion Kohler
    Abstract: Prudential instruments are commonly seen as the tools that can be used to deliver the macroprudential policy goals of reducing the frequency and severity of financial crises. And interest rates are traditionally viewed as the means to deliver the macroeconomic stabilisation goals of low, stable inflation and sustainable, stable growth. But, at the macroeconomic level, these two sets of policy tools have quite a bit in common. We use a simple macroeconomic model to study the extent to which capital adequacy requirements and interest rates might be substitutes in meeting the objective of stabilising the economy. We find that in our model both are substitutes for achieving conventional monetary policy objectives. In addition, we show that, in principle, they can both be used to meet financial stability objectives. This implies a need to coordinate the use of macroprudential and traditional monetary policy tools, a need that has clear implications for the construction of the policy framework designed to deliver the joint objectives of macroeconomic and financial stability.
    Keywords: Monetary policy, capital adequacy policy, financial stability policy
    Date: 2012–05
  11. By: Givens, Gregory; Salemi, Michael
    Abstract: Accounting for the uncertainty inherent in real-time perceptions of the state of the economy is believed to be critical for the analysis of historical monetary policy. We investigate this claim through the lens of a small-scale new-Keynesian model with optimal discretionary policy and partial information about the state. The model is estimated using maximum likelihood on US data over the Volcker-Greenspan-Bernanke regime. A comparison of our estimates to those from a version of the model with complete information reveals that under partial information: (i) the Federal Reserve demonstrates a significant concern for stabilizing fluctuations in the output gap, and (ii) the discrepancy between optimal and observed policy behavior is smaller.
    Keywords: Partial Information; Optimal Monetary Policy; Central Bank Preferences
    JEL: E58 E52 E37
    Date: 2012–05–30
  12. By: Marco Passarella
    Abstract: In the last few years, a number of scholars has referred to the crop of contributions of Hyman P. Minsky as „required reading? for understanding the tendency of capitalist economies to fall into recurring crises. However, the so-called „financial instability hypothesis? of Minsky relies on muchdisputed assumptions. Moreover, Minsky?s analysis of capitalism must be updated on the basis of the deep changes which, during the last three decades, have concerned the world economy. In order to overcome these theoretical difficulties, the paper supplies a simplified, but consistent, re-formulation of some of the most disputed aspects of Minsky?s theory by cross-breeding it with inputs from the current Post-Keynesian literature. This allows us to analyze (within a simplified stock-flow consistent monetary circuit-model) the impact of both „capital-asset inflation? and consumer credit on the financial „soundness? of a monetary economy of production.
    Keywords: Financial Instability; Stock-Flow Consistency; Monetary Theory of Production
    JEL: B50 E12 E32 E44
    Date: 2012
  13. By: David Laidler (C.D. Howe Institute)
    Abstract: Monetary authorities should keep an eye on money growth in the economy to help stimulate and monitor the recovery. Money growth, meaning the pace of expansion in the quantity of money held by the public and readily accessible deposits at financial institutions, is proving prescient in the current situation. While skeptics of QE will be inclined to attribute the recent surge of US money growth and signs of recovery in its wake to coincidence, advocates will suggest that QE's first round in 2009 prevented a collapse of the money supply like the one that turned the initial downturn of 1929/30 into the Great Depression, and that its second round is now promoting recovery.
    Keywords: Monetary Policy, quantitative easing (QE), Bank of Canada, interest rates
    JEL: E52 E58 E42
    Date: 2012–05
  14. By: Paul Castillo; Carlos Montoro
    Abstract: In this paper we analyse the effects of informal labour markets on the dynamics of inflation and on the transmission of aggregate demand and supply shocks. In doing so, we incorporate the informal sector in a modified New Keynesian model with labour market frictions as in the Diamond-Mortensen-Pissarides model. Our main results show that the informal economy generates a "buffer" effect that diminishes the pressure of demand shocks on inflation. This finding is consistent with the empirical literature on the effects of informal labour markets in business cycle fluctuations. This result implies that, in economies with large informal labour markets, changes in interest rates are more effective in stimulating real output and there is less impact on inflation. Furthermore, the model produces cyclical flows from informal to formal employment, consistent with the data.
    Keywords: Monetary Policy, New Keynesian Model, Informal Economy, Labour Market Frictions
    Date: 2012–02
  15. By: Coibion, Olivier (College of William and Mary); Gorodnichenko, Yuriy (University of California, Berkeley); Kueng, Lorenz (Northwestern University); Silvia, John (Wells Fargo)
    Abstract: We study the effects and historical contribution of monetary policy shocks to consumption and income inequality in the United States since 1980. Contractionary monetary policy actions systematically increase inequality in labor earnings, total income, consumption and total expenditures. Furthermore, monetary shocks can account for a significant component of the historical cyclical variation in income and consumption inequality. Using detailed micro-level data on income and consumption, we document the different channels via which monetary policy shocks affect inequality, as well as how these channels depend on the nature of the change in monetary policy.
    Keywords: monetary policy, income inequality, consumption inequality
    JEL: E3 E4 E5
    Date: 2012–06
  16. By: Brett Fiebiger; Scott Fullwiler; Stephanie Kelton; L. Randall Wray
    Abstract: This working paper presents a debate, which begins with Bret Fiebiger arguing that the approach to monetary and financial macroeconomics which terms itself "modern monetary theory” does not have sound analytic foundations and is of little relevance empirically. Scott Fullwiler, Stephanie Kelton and L. Randall Wray, three leading contributors to modern monetary theory, respond with a new statement of their overall approach, which they believe shows clearly its links with post-Keynesianism. Fiebiger provides a final rejoinder to the Fullwiler-Kelton-Wray response.
    Date: 2012
  17. By: Stanisic, Nenad
    Abstract: There are various benefits which countries could derive from the renouncement of a national currency hallmarked by unstable external and internal values. The most evident one is the reduction of a long-term inflation rate. The objective of this paper is to test the hypothesis of the positive influence which monetary integration exerts on monetary stability and economic growth. On the other hand, monetary integration can also cause certain economic problems to countries economies, such as the one of the balance-of-payments adjustment. Hence this paper surveys its influence on the current account balance of national economies. The hypotheses are tested empirically by examining the sample of 42 countries from different regions and of different development levels. The results suggest that the monetary integration influences the inflation reduction in developing countries, but not the achieved economic growth rates. At the same time, the results indicate that monetary integration contributes to an increase in the current account deficit of developing countries, but not of developed ones.
    Keywords: international monetary integration; economic growth; inflation; current account
    JEL: F15 E31 F41 F31
    Date: 2012–02–06
  18. By: Daniel L. Thornton
    Abstract: With its interest rate instrument at the zero lower bound, the Federal Open Market Committee has turned to unconventional methods to stimulate economic growth and increase employment. Prominent among these is quantitative easing (QE)—the purchase of a large quantity of longer-term debt. Policymakers and analysts have argued that QE works through the so-called portfolio balance channel: it reduces long-term yields by reducing the term premium investors require to hold long-dated securities. I present several reasons to be skeptical of the theoretical foundations of this portfolio balance channel and offer several arguments for why the effect of QE might be relatively small even if it is theoretically valid. Consistent with these arguments, an empirical analysis using a variety of interest rate variables and public debt supply measures used in the literature finds essentially no support for the portfolio balance channel.>
    Keywords: Monetary policy - United States ; Economic conditions
    Date: 2012
  19. By: Chris McDonald (Reserve Bank of New Zealand)
    Abstract: On 1 August 2011 the Reserve Bank s trade-weighted exchange rate index (TWI) rose to 75. The only previous time that this level was reached since the exchange rate was floated in 1985 was in July 2007. On both of these occasions, the high level of the TWI was matched by the ANZ commodity price index, which itself reached levels not seen in 30 years. The close timing of these peaks was almost certainly no coincidence. In this paper, we quantify this relationship and consider its importance for explaining the New Zealand dollar over the past 25 years relative to the many other influences, such as housing cycles and interest rate differentials.
    Date: 2012–05
  20. By: Jean-Bernard Chatelain (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris I - Panthéon Sorbonne, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris); Kirsten Ralf (Ecole Supérieure du Commerce Extérieur - ESCE)
    Abstract: The bargaining power of international banks is currently still very high as compared to what it was at the time of the Bretton Woods conference. As a consequence, systemic financial crises are likely to remain recurrent phenomena with large effects on macroeconomic aggregates. Mainstream macroeconomic models dealing with financial frictions failed to explain at least eight stylized facts of the ongoing crisis. We therefore suggest two complementary assumptions : (I) A systemic bankruptcy risk stable equilibrium may be feasible, besides another stable equilibrium related to a stability corridor, (II) inefficient financial markets rarely ensure that the price of an asset is equal to its "fundamental long term value". Both assumptions are compatible with a structural research programme taking into account the Lucas' critique (1976) but may start a creative destruction process of the Lucas' view of business cycles theory.
    Keywords: Asset prices, liquidity trap, monetary policy, financial stability, business cycles, economic growth, dynamic stochastic, general equilibrium models.
    Date: 2012–05
  21. By: John H. Munro
    Abstract: Coinage debasement in medieval and early modern Europe remains an ill-understood topic; and indeed an often cited article ("The Debasement Puzzle": Velde and Weber, 1996) sought to demonstrate that coinage debasements were both impractical and economically futile. The purpose of this study is to demonstrate that aggressive debasements were generally very practical and effective, so long as they were properly devised to profit both the merchants who brought bullion to the mints and the princes who earned seigniorage revenues from those mints. To be sure, the general public often suffered the consequences of this seigniorage tax from the consequent inflation. But another goal of this study is to demonstrate that inflation was almost never proportionate to the extent of the debasement, even during Henry VIII's Great Debasement (1542-53); and to demonstrate that both merchants and the prince benefitted from debasements in real terms, provided that they spent the increased quantity of now debased coins (of the same face value) quickly enough, before the full force of inflation was felt. Central to the economic success of such debasements was the pre-modern mint technology: the very crudity of the techniques of "hammered" coinages whose mint outputs did not produce fully identical coins in each issue. For this and many other reasons explored in this study, domestic merchants and the general public almost always accepted coins by tale (number), at face value, and did not discount them for deficiencies in weight and fineness, except for those merchants dealing with gold coins in international trade. The second part of this study is an examination of the European princes' motives for conducting such coinage debasements. As the previous argument and so many previous studies have indicated, an obvious motive was profit-seeking, so that such debasements may be regarded more as fiscal than truly monetary policies. But an equally powerful and perhaps even more widespread monetary motive was defence of the realm's coinages and mints: i.e., necessary defences and retaliations against aggressive, profit-seeking debasements undertaken by neighboring prices (or city states). In essence, that meant a defence against the operations of Gresham's Law, whose frequency and effectiveness in international monetary flows are also examined in this study. The operation of Gresham's Law also involved, however, the deterioration of the general standard of domestic coins through counterfeiting, fraudulent clipping and sweating of the coins, and especially by normal wear and tear in domestic circulation. Such deterioration, for all these reasons, thus meant that freshly minted, full-bodied good coins were soon driven out of circulation (exported abroad, melted down, or just hoarded) by the prevailing circulation of 'bad' coins, thus necessitating a defensive debasement to reduce the mint standard, in weight and fineness, to that of the prevailing circulation. The problem of Gresham's Law, related to both aggressive and defensive debasements, was resolved, to obviate debasements, only by the advent of modern steam-powered machinery to produce perfectly round, milled, and exact replicas of coins struck. The final but brief aspect of this study is to answer the question raised by Sargent and Velde in their recent monograph: The Big Problem of Small Change (2002). Were such coinage debasement ever undertaken as a deliberate policy to expand the money supply (especially during the late-medieval "bullion famines") and in particular to remedy any chronic shortage of petty coins or "small change": other than as a defensive reaction to Gresham's Law? The answer advanced in this study, briefly, is simply NO (for the reasons explored in the conclusion).
    Keywords: coinage debasements; ‘Great Debasement’; gold; silver; billon; bullion; bullionist policies; mints; mint outputs; seigniorage; brassage; token coinages; ‘small change’; Gresham’s Law; inflation; deflation; ‘bullion famines’ and monetary scarcities; warfare; taxation; France; Flanders; dukes of Burgundy; England; Henry VIII.
    JEL: E E41 E42 E51 E52 E62 F33 H11 H27 N13 N23 N43
    Date: 2012–06–06
  22. By: Fabio Milani (Department of Economics, University of California-Irvine); Ashish Rajbhandari (Department of Economics, University of California-Irvine)
    Abstract: Empirical work in macroeconomics almost universally relies on the hypothesis of rational expectations. This paper departs from the literature by considering a variety of alternative expectations formation models. We study the econometric properties of a popular New Keynesian monetary DSGE model under different expectational assumptions: the benchmark case of rational expectations, rational expectations extended to allow for `news' about future shocks, near-rational expectations and learning, and observed subjective expectations from surveys. The results show that the econometric evaluation of the model is extremely sensitive to how expectations are modeled. The posterior distributions for the structural parameters significantly shift when the assumption of rational expectations is modified. Estimates of the structural disturbances under different expectation processes are often dissimilar. The modeling of expectations has important effects on the ability of the model to fit macroeconomic time series. The model achieves its worse fit under rational expectations. The introduction of news improves fit. The best-fitting specifications, however, are those that assume learning. Expectations also have large effects on forecasting. Survey expectations, news, and learning all work to improve the model's one-step-ahead forecasting accuracy. Rational expectations, however, dominate over longer horizons, such as one-year ahead or beyond.
    Keywords: Expectation formation; Rational expectations; News shocks; Adaptive learning; Survey expectations; Econometric evaluation of DSGE models; Forecasting
    JEL: C52 D84 E32 E37 E50
    Date: 2012–06
  23. By: John M. Maheu (Department of Economics, University of Toronto, Canada; RCEA, Italy); Yong Song (CenSoC, University of Technology, Sydney, Australia; RCEA, Italy)
    Abstract: This paper develops an efficient approach to model and forecast time-series data with an unknown number of change-points. Using a conjugate prior and conditional on time-invariant parameters, the predictive density and the posterior distribution of the change-points have closed forms. The conjugate prior is further modeled as hierarchical to exploit the information across regimes. This framework allows breaks in the variance, the regression coefficients or both. Regime duration can be modelled as a Poisson distribution. A new efficient Markov Chain Monte Carlo sampler draws the parameters as one block from the posterior distribution. An application to Canada inflation time series shows the gains in forecasting precision that our model provides.
    Keywords: multiple change-points, regime duration, inflation targeting, predictive density, MCMC
    Date: 2012–06

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