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UK monetary regimes and macroeconomic stylised facts

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  • Luca Benati

Abstract

We exploit the marked changes in UK monetary arrangements since the metallic standards era to investigate continuity and changes across monetary regimes in key macroeconomic stylised facts in the United Kingdom. We find that, historically, inflation persistence has been the exception, rather than the rule, with inflation estimated to have been highly persistent only during the period between the floating of the pound, in June 1972, and the introduction of inflation targeting, in October 1992. As a corollary, our results clearly reject Mishkin's explanation for time variation in the extent of the Fisher effect, favouring instead Barsky's theory. We document a remarkable stability across regimes in the correlation between inflation and the rates of growth of both narrow and broad monetary aggregates at the very low frequencies, thus countering the Whiteman-McCallum criticism of Lucas. The post-1992 inflation-targeting regime appears to have been characterised, to date, by the most stable macroeconomic environment in recorded UK history, with the volatilities of the business-cycle components of real GDP, national accounts aggregates, and inflation measures having been, post-1992, systematically lower than for any of the pre-1992 monetary regimes/historical periods, often markedly so, as in the case of inflation and real GDP. The Phillips correlation between inflation and unemployment was flattest under the gold standard, steepest between 1972 and 1992. In line with Ball, Mankiw and Romer, evidence points towards a positive correlation between mean inflation and the steepness of the trade-off. We show how Keynes, in his dispute with Dunlop and Tarshis on real wage cyclicality, was entirely right: during the inter-war period, real wages were strikingly countercyclical. By contrast, under inflation targeting they have been, so far, strongly procyclical.

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Paper provided by Bank of England in its series Bank of England working papers with number 290.

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Date of creation: Mar 2006
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Handle: RePEc:boe:boeewp:290

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Cited by:
  1. Kapetanios, George & Yates, Tony, 2011. "Evolving UK and US macroeconomic dynamics through the lens of a model of deterministic structural change," Bank of England working papers 434, Bank of England.
  2. Saumitra, Bhaduri & Raja, Sethudurai, 2012. "A note on excess money growth and inflation dynamics: evidence from threshold regression," MPRA Paper 38036, University Library of Munich, Germany.
  3. Lendvai, Julia, 2006. "Inflation dynamics and regime shifts," Working Paper Series 0684, European Central Bank.
  4. Alex Brazier & Richard Harrison & Mervyn King & Tony Yates, 2006. "The danger of inflating expectations of macroeconomic stability: heuristic switching in an overlapping generations monetary model," Bank of England working papers 303, Bank of England.
  5. Antonio E. Noriega & Manuel Ramos Francia, 2009. "On the dynamics of inflation persistence around the world," Working Papers 2009-02, Banco de México.
  6. Schrimpf, Andreas & Wang, Qingwei, 2010. "A reappraisal of the leading indicator properties of the yield curve under structural instability," International Journal of Forecasting, Elsevier, vol. 26(4), pages 836-857, October.
  7. Harrison, Richard & Oomen, Özlem, 2010. "Evaluating and estimating a DSGE model for the United Kingdom," Bank of England working papers 380, Bank of England.
  8. David C. Wheelock & Mark E. Wohar, 2009. "Can the term spread predict output growth and recessions? a survey of the literature," Review, Federal Reserve Bank of St. Louis, issue Sep, pages 419-440.
  9. Benati, Luca & Goodhart, Charles, 2007. "Investigating time-variation in the marginal predictive power of the yield spread," Working Paper Series 0802, European Central Bank.
  10. Paolo Surico, 2005. "Monetary Policy Shifts, Indeterminacy and Inflation Dynamics," Computing in Economics and Finance 2005 313, Society for Computational Economics.
  11. Carlos Capistrán & Manuel Ramos-Francia, 2009. "Inflation Dynamics In Latin America," Contemporary Economic Policy, Western Economic Association International, vol. 27(3), pages 349-362, 07.
  12. Michael Woodford, 2007. "The Case for Forecast Targeting as a Monetary Policy Strategy," Journal of Economic Perspectives, American Economic Association, vol. 21(4), pages 3-24, Fall.
  13. Sujit Kapadia, 2005. "Optimal Monetary Policy under Hysteresis," Economics Series Working Papers 250, University of Oxford, Department of Economics.
  14. Paolo Surico, 2008. "Monetary policy shifts and inflation dynamics," Bank of England working papers 338, Bank of England.
  15. Miles Parker, 2006. "Diverging Trends in Aggregate and Firm-Level Volatility in the UK," Discussion Papers 16, Monetary Policy Committee Unit, Bank of England.

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