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Modeling model uncertainty

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  • Alexei Onatski

    ()
    (Columbia University - Department of Economics)

  • Noah Williams

    ()
    (Princeton University - Department of Economics)

Abstract

Recently there has been a great deal of interest in studying monetary policy under model uncertainty. We develop new methods to analyze different sources of uncertainty in one coherent structure, which is useful for policy decisions. We show how to estimate the size of the uncertainty based on time series data, and how to incorporate this uncertainty in choosing policy. In particular, we develop a new approach for modeling uncertainty called model error modeling. The approach imposes additional structure on the errors of an estimated model, and builds a statistical description of the uncertainty around the model. We develop both parametric and nonparametric specifications of this approach, and use them to estimate uncertainty in a small model of the US economy. We then use our estimates to compute Bayesian and minimax robust policy rules, which are designed to perform well in the face of uncertainty.

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Bibliographic Info

Paper provided by Columbia University, Department of Economics in its series Discussion Papers with number 0203-05.

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Length: 31 pages
Date of creation: 2002
Date of revision:
Handle: RePEc:clu:wpaper:0203-05

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References

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  1. Alexei Onatski & James H. Stock, 2000. "Robust Monetary Policy Under Model Uncertainty in a Small Model of the U.S. Economy," NBER Working Papers 7490, National Bureau of Economic Research, Inc.
  2. Craine, Roger, 1979. "Optimal monetary policy with uncertainty," Journal of Economic Dynamics and Control, Elsevier, vol. 1(1), pages 59-83, February.
  3. Glenn D. Rudebusch, 2001. "Is The Fed Too Timid? Monetary Policy In An Uncertain World," The Review of Economics and Statistics, MIT Press, vol. 83(2), pages 203-217, May.
  4. Glenn Rudebusch & Lars E.O. Svensson, 1999. "Policy Rules for Inflation Targeting," NBER Chapters, in: Monetary Policy Rules, pages 203-262 National Bureau of Economic Research, Inc.
  5. Mccallum, Bennet T., 1988. "Robustness properties of a rule for monetary policy," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 29(1), pages 173-203, January.
  6. William Poole, 1999. "Monetary policy rules?," Review, Federal Reserve Bank of St. Louis, issue Mar, pages 3-12.
  7. Andrew T.. Levin & Volker Wieland & John Williams, 1999. "Robustness of Simple Monetary Policy Rules under Model Uncertainty," NBER Chapters, in: Monetary Policy Rules, pages 263-318 National Bureau of Economic Research, Inc.
  8. Thomas J. Sargent & LarsPeter Hansen, 2001. "Robust Control and Model Uncertainty," American Economic Review, American Economic Association, vol. 91(2), pages 60-66, May.
  9. Athanasios Orphanides, 1998. "Monetary policy rules based on real-time data," Finance and Economics Discussion Series 1998-03, Board of Governors of the Federal Reserve System (U.S.).
  10. Gary Chamberlain, 2000. "Econometric applications of maxmin expected utility," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 15(6), pages 625-644.
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  12. Laurence Ball, 1998. "Policy Rules for Open Economies," RBA Research Discussion Papers rdp9806, Reserve Bank of Australia.
  13. Eric Swanson, 2000. "On Signal Extraction and Non-Certainty-Equivalence in Optimal Monetary Policy Rules," Econometric Society World Congress 2000 Contributed Papers 1085, Econometric Society.
  14. John Rust, 1997. "Using Randomization to Break the Curse of Dimensionality," Econometrica, Econometric Society, vol. 65(3), pages 487-516, May.
  15. Christopher A. Sims, 2001. "Pitfalls of a Minimax Approach to Model Uncertainty," American Economic Review, American Economic Association, vol. 91(2), pages 51-54, May.
  16. Söderström, Ulf, 2000. "Monetary policy with uncertain parameters," Working Paper Series 0013, European Central Bank.
  17. Peter Isard & Douglas Laxton & Ann-Charlotte Eliasson, 1999. "Simple Monetary Policy Rules Under Model Uncertainty," International Tax and Public Finance, Springer, vol. 6(4), pages 537-577, November.
  18. J. Rust & J. F. Traub & H. Wozniakowski, 2002. "Is There a Curse of Dimensionality for Contraction Fixed Points in the Worst Case?," Econometrica, Econometric Society, vol. 70(1), pages 285-329, January.
  19. Alan S. Blinder, 1997. "Distinguished Lecture on Economics in Government: What Central Bankers Could Learn from Academics--And Vice Versa," Journal of Economic Perspectives, American Economic Association, vol. 11(2), pages 3-19, Spring.
  20. Giordani, Paolo & Soderlind, Paul, 2004. "Solution of macromodels with Hansen-Sargent robust policies: some extensions," Journal of Economic Dynamics and Control, Elsevier, vol. 28(12), pages 2367-2397, December.
  21. repec:cup:macdyn:v:6:y:2002:i:1:p:85-110 is not listed on IDEAS
  22. John B. Taylor, 1999. "Monetary Policy Rules," NBER Books, National Bureau of Economic Research, Inc, number tayl99-1, May.
  23. Chib, Siddhartha & Greenberg, Edward, 1994. "Bayes inference in regression models with ARMA (p, q) errors," Journal of Econometrics, Elsevier, vol. 64(1-2), pages 183-206.
  24. Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April.
  25. N. Gregory Mankiw & Matthew D. Shapiro, 1986. "News or Noise? An Analysis of GNP Revisions," NBER Working Papers 1939, National Bureau of Economic Research, Inc.
  26. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
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