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Making a Weak Instrument Set Stronger: Factor-Based Estimation of the Taylor Rule

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  • Harun Mirza

    ()

  • Lidia Storjohann

    ()

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    Abstract

    The problem of weak identification has recently attracted attention in the analysis of structural macroeconomic models. Using robust methods can result in large confidence sets making inference difficult. We overcome this problem in the analysis of a forward-looking Taylor rule by seeking stronger instruments. We suggest exploiting information from a large macroeconomic data set by generating factors and using them as additional instruments. This approach results in a stronger instrument set and hence smaller weak-identification robust confidence sets. It allows us to conclude that there has been a shift in monetary policy from the pre-Volcker regime to the Volcker-Greenspan tenure.

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    File URL: http://www.wiwi.uni-bonn.de/bgsepapers/bonedp/bgse13_2011.pdf
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    Bibliographic Info

    Paper provided by University of Bonn, Germany in its series Bonn Econ Discussion Papers with number bgse13_2012.

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    Length: 22
    Date of creation: Dec 2011
    Date of revision:
    Handle: RePEc:bon:bonedp:bgse13_2012

    Contact details of provider:
    Postal: Bonn Graduate School of Economics, University of Bonn, Adenauerallee 24 - 26, 53113 Bonn, Germany
    Fax: +49 228 73 6884
    Web page: http://www.bgse.uni-bonn.de

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    Keywords: Taylor Rule; Weak Instruments; Factor Models;

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    16. Taylor, John B., 1999. "The robustness and efficiency of monetary policy rules as guidelines for interest rate setting by the European central bank," Journal of Monetary Economics, Elsevier, vol. 43(3), pages 655-679, June.
    17. Seung C. Ahn & Alex R. Horenstein, 2013. "Eigenvalue Ratio Test for the Number of Factors," Econometrica, Econometric Society, vol. 81(3), pages 1203-1227, 05.
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    22. John B. Taylor, 1999. "A Historical Analysis of Monetary Policy Rules," NBER Chapters, in: Monetary Policy Rules, pages 319-348 National Bureau of Economic Research, Inc.
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