Advanced Search
MyIDEAS: Login to save this paper or follow this series

Expectations, credibility, and disinflation in a small macroeconomic model

Contents:

Author Info

  • Chan G. Huh
  • Kevin J. Lansing

Abstract

We use a version of the Fuhrer-Moore model to study the effects of expectations and central bank credibility on the economy's dynamic transition path during a disinflation. Simulations are compared under four different specifications of the model that vary according to the way that expectations are formed (rations versus adaptive) and the degree of central bank credibility (full versus partial). In general, the various specifications exhibit qualitatively similar behavior and can reasonably approximate the trend movements in U.S. macro variables during the Volcker disinflation of the early 1980s. However, the specification with adaptive expectations and partial credibility is the only one to capture the temporary rise in the long-term nominal interest rate observed in U.S. data at the start of the disinflation. Our simulations also show that incremental reductions in the output sacrifice ratio are largest at the low end of the credibility range, suggesting that a central bank may face diminishing returns in its efforts to enhance credibility.

Download Info

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
File URL: http://www.frbsf.org/econrsrch/workingp/wp98-01.pdf
Our checks indicate that this address may not be valid because: 404 Not Found. If this is indeed the case, please notify (Diane Rosenberger)
Download Restriction: no

Bibliographic Info

Paper provided by Federal Reserve Bank of San Francisco in its series Working Papers in Applied Economic Theory with number 98-01.

as in new window
Length:
Date of creation: 1998
Date of revision:
Handle: RePEc:fip:fedfap:98-01

Contact details of provider:
Postal: P.O. Box 7702, San Francisco, CA 94120-7702
Phone: (415) 974-2000
Fax: (415) 974-3333
Email:
Web page: http://www.frbsf.org/
More information through EDIRC

Order Information:
Email:

Related research

Keywords: Inflation (Finance) ; Econometric models ; Banks and banking; Central ; Monetary policy - United States ; Monetary policy;

Other versions of this item:

References

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
as in new window
  1. Lucas, Robert Jr., 1972. "Expectations and the neutrality of money," Journal of Economic Theory, Elsevier, Elsevier, vol. 4(2), pages 103-124, April.
  2. Albert Marcet & Juan P. Nicolini, 2003. "Recurrent Hyperinflations and Learning," American Economic Review, American Economic Association, American Economic Association, vol. 93(5), pages 1476-1498, December.
  3. Mervyn King, 1996. "How should central banks reduce inflation? conceptual issues," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, Federal Reserve Bank of Kansas City, pages 53-91.
  4. David Andolfatto & Paul Gomme, 1997. "Monetary policy regimes and beliefs," Discussion Paper / Institute for Empirical Macroeconomics, Federal Reserve Bank of Minneapolis 118, Federal Reserve Bank of Minneapolis.
  5. Jeffrey C. Fuhrer, 1996. "Towards a compact, empirically verified rational expectations model for monetary policy analysis," Working Papers, Federal Reserve Bank of Boston 96-8, Federal Reserve Bank of Boston.
  6. Timothy Cook, 1989. "Determinants of the federal funds rate: 1979-1982," Economic Review, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue Jan, pages 3-19.
  7. Christina D. Romer & David H. Romer, 1996. "Institutions for Monetary Stability," NBER Working Papers 5557, National Bureau of Economic Research, Inc.
  8. Ben S. Bernanke & Mark Gertler & Mark Watson, 1997. "Systematic Monetary Policy and the Effects of Oil Price Shocks," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 28(1), pages 91-157.
  9. Backus, David & Driffill, John, 1985. "Inflation and Reputation," American Economic Review, American Economic Association, American Economic Association, vol. 75(3), pages 530-38, June.
  10. Hardouvelis, Gikas A & Barnhart, Scott W, 1989. "The Evolution of Federal Reserve Credibility: 1978-1984," The Review of Economics and Statistics, MIT Press, vol. 71(3), pages 385-93, August.
  11. Joseph E. Gagnon, 1997. "Inflation regimes and inflation expectations," International Finance Discussion Papers, Board of Governors of the Federal Reserve System (U.S.) 581, Board of Governors of the Federal Reserve System (U.S.).
  12. Taylor, John B, 1980. "Aggregate Dynamics and Staggered Contracts," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 88(1), pages 1-23, February.
  13. Matthew D. Shapiro, 1994. "Federal Reserve Policy: Cause and Effect," NBER Chapters, in: Monetary Policy, pages 307-334 National Bureau of Economic Research, Inc.
  14. Barro, Robert J., 1986. "Reputation in a model of monetary policy with incomplete information," Journal of Monetary Economics, Elsevier, Elsevier, vol. 17(1), pages 3-20, January.
  15. Thomas J. Sargent, 1981. "The ends of four big inflations," Working Papers, Federal Reserve Bank of Minneapolis 158, Federal Reserve Bank of Minneapolis.
  16. Aksoy, Yunus & Orphanides, Athanasios & Small, David & Wieland, Volker & Wilcox, David, 2006. "A quantitative exploration of the opportunistic approach to disinflation," Journal of Monetary Economics, Elsevier, Elsevier, vol. 53(8), pages 1877-1893, November.
  17. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 39(1), pages 195-214, December.
  18. Benjamin M. Friedman, 1984. "Lessons from the 1979-1982 Monetary Policy Experiment," NBER Working Papers 1272, National Bureau of Economic Research, Inc.
  19. Walsh, Carl E, 1988. "Testing for Real Effects of Monetary Policy Regime Shifts: A Note," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 20(3), pages 393-401, August.
  20. Michael T. Kiley, 1998. "Monetary policy under neoclassical and New-Keynesian Phillips Curves, with an application to price level and inflation targeting," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 1998-27, Board of Governors of the Federal Reserve System (U.S.).
  21. Marcet, Albert & Sargent, Thomas J., 1989. "Convergence of least squares learning mechanisms in self-referential linear stochastic models," Journal of Economic Theory, Elsevier, Elsevier, vol. 48(2), pages 337-368, August.
  22. Backus, David & Driffill, John, 1985. "Rational Expectations and Policy Credibility Following a Change in Regime," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 52(2), pages 211-21, April.
  23. Imrohoruglu, Ayse, 1989. "Cost of Business Cycles with Indivisibilities and Liquidity Constraints," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 97(6), pages 1364-83, December.
  24. Chan G. Huh & Kevin J. Lansing, 1998. "Federal Reserve credibility and inflation scares," Economic Review, Federal Reserve Bank of San Francisco, Federal Reserve Bank of San Francisco, pages 3-16.
  25. Cukierman, Alex & Meltzer, Allan H, 1986. "A Theory of Ambiguity, Credibility, and Inflation under Discretion and Asymmetric Information," Econometrica, Econometric Society, Econometric Society, vol. 54(5), pages 1099-1128, September.
  26. Ball, Laurence, 1995. "Disinflation with imperfect credibility," Journal of Monetary Economics, Elsevier, Elsevier, vol. 35(1), pages 5-23, February.
  27. Martin Evans & Paul Wachtel, 1993. "Inflation regimes and the sources of inflation uncertainty," Proceedings, Federal Reserve Bank of Cleveland, pages 475-520.
  28. Crippsss, Martin, 1991. "Learning rational expectations in a policy game," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 15(2), pages 297-315, April.
  29. Lewis, Karen K, 1989. "Changing Beliefs and Systematic Rational Forecast Errors with Evidence from Foreign Exchange," American Economic Review, American Economic Association, American Economic Association, vol. 79(4), pages 621-36, September.
  30. Laurence Ball, 1993. "What determines the sacrifice ratio?," Working Papers 93-21, Federal Reserve Bank of Philadelphia.
  31. Lawrence J. Christiano & Martin Eichenbaum, 1992. "Liquidity effects and the monetary transmission mechanism," Staff Report, Federal Reserve Bank of Minneapolis 150, Federal Reserve Bank of Minneapolis.
  32. Bertocchi, Graziella & Spagat, Michael, 1993. "Learning, experimentation, and monetary policy," Journal of Monetary Economics, Elsevier, Elsevier, vol. 32(1), pages 169-183, August.
  33. 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.
  34. Buiter, Willem H & Jewitt, Ian, 1981. "Staggered Wage Setting with Real Wage Relativities: Variations on a Theme of Taylor," The Manchester School of Economic & Social Studies, University of Manchester, University of Manchester, vol. 49(3), pages 211-28, September.
  35. Lovell, Michael C, 1986. "Tests of the Rational Expectations Hypothesis," American Economic Review, American Economic Association, American Economic Association, vol. 76(1), pages 110-24, March.
  36. Flood, Robert P & Garber, Peter M, 1980. "An Economic Theory of Monetary Reform," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 88(1), pages 24-58, February.
  37. Jeff Fuhrer & George Moore, 1993. "Inflation persistence," Proceedings, Board of Governors of the Federal Reserve System (U.S.), Board of Governors of the Federal Reserve System (U.S.).
  38. Blackburn, Keith & Christensen, Michael, 1989. "Monetary Policy and Policy Credibility: Theories and Evidence," Journal of Economic Literature, American Economic Association, vol. 27(1), pages 1-45, March.
  39. Cripps, Martin, 1988. "Learning Rational Expectations In A Policy Game," The Warwick Economics Research Paper Series (TWERPS) 297, University of Warwick, Department of Economics.
  40. Ireland, Peter N., 1995. "Optimal disinflationary paths," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 19(8), pages 1429-1448, November.
  41. Jeffrey C. Fuhrer, 1995. "The [un]importance of forward-looking behavior in price specifications," Working Papers, Federal Reserve Bank of Boston 95-6, Federal Reserve Bank of Boston.
  42. Blake, Andrew P & Westaway, Peter F, 1996. "Credibility and the Effectiveness of Inflation Targeting Regimes," The Manchester School of Economic & Social Studies, University of Manchester, University of Manchester, vol. 64(0), pages 28-50, Suppl..
  43. Fuhrer, Jeffrey C & Moore, George R, 1995. "Monetary Policy Trade-offs and the Correlation between Nominal Interest Rates and Real Output," American Economic Review, American Economic Association, American Economic Association, vol. 85(1), pages 219-39, March.
  44. Fuhrer, Jeffrey C, 1996. "Monetary Policy Shifts and Long-Term Interest Rates," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 111(4), pages 1183-1209, November.
  45. Jeffrey C. Fuhrer & Mark A. Hooker, 1988. "Learning about monetary regime shifts in an overlapping wage contract model," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 25, Board of Governors of the Federal Reserve System (U.S.).
  46. Tetlow, Robert J. & von zur Muehlen, Peter, 2001. "Simplicity versus optimality: The choice of monetary policy rules when agents must learn," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 25(1-2), pages 245-279, January.
  47. Evans, Charles L. & Marshall, David A., 1998. "Monetary policy and the term structure of nominal interest rates: Evidence and theory," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 49(1), pages 53-111, December.
  48. John Y. Campbell & N. Gregory Mankiw, 1989. "Consumption, Income, and Interest Rates: Reinterpreting the Time Series Evidence," NBER Working Papers 2924, National Bureau of Economic Research, Inc.
  49. Marvin Goodfriend, 1993. "Interest rate policy and the inflation scare problem: 1979-1992," Economic Quarterly, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue Win, pages 1-24.
  50. Mervyn King, 1996. "How should central banks reduce inflation? - Conceptual issues," Economic Review, Federal Reserve Bank of Kansas City, issue Q IV, pages 25-52.
  51. John M. Roberts, 1994. "Is inflation sticky?," Working Paper Series / Economic Activity Section, Board of Governors of the Federal Reserve System (U.S.) 152, Board of Governors of the Federal Reserve System (U.S.).
  52. Robert J. Gordon & Stephen R. King, 1982. "The Output Cost of Disinflation in Traditional and Vector Autoregressive Models," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 13(1), pages 205-244.
  53. Lucas, Robert Jr, 1976. "Econometric policy evaluation: A critique," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 1(1), pages 19-46, January.
  54. Jeffrey C. Fuhrer, 1994. "Optimal monetary policy and the sacrifice ratio," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, vol. 38, pages 43-84.
  55. Friedman, Milton, 1984. "Lessons from the 1979-82 Monetary Policy Experiment," American Economic Review, American Economic Association, American Economic Association, vol. 74(2), pages 397-400, May.
  56. repec:fth:harver:1435 is not listed on IDEAS
  57. Boschen, John F. & Weise, Charles L., 2001. "The Ex Ante Credibility of Disinflation Policy and the Cost of Reducing Inflation," Journal of Macroeconomics, Elsevier, Elsevier, vol. 23(3), pages 323-347, July.
  58. Olivier J. Blanchard, 1984. "The Lucas Critique and the Volcker Deflation," NBER Working Papers 1326, National Bureau of Economic Research, Inc.
  59. Baxter, M., 1989. "Rational Response To Unprecedented Policies: The 1979 Change In Federal Reserve Operating Procedures," RCER Working Papers 171, University of Rochester - Center for Economic Research (RCER).
  60. Sargent, Thomas J & Wallace, Neil, 1975. ""Rational" Expectations, the Optimal Monetary Instrument, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 83(2), pages 241-54, April.
  61. Taylor, John B, 1982. "Establishing Credibility: A Rational Expectations Viewpoint," American Economic Review, American Economic Association, American Economic Association, vol. 72(2), pages 81-85, May.
  62. John B. Taylor, 1999. "Introduction to "Monetary Policy Rules"," NBER Chapters, in: Monetary Policy Rules, pages 1-14 National Bureau of Economic Research, Inc.
  63. Ruge-Murcia, Francisco J, 1995. "Credibility and Changes in Policy Regime," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 103(1), pages 176-208, February.
  64. Orphanides, Athanasios, 2003. "The quest for prosperity without inflation," Journal of Monetary Economics, Elsevier, Elsevier, vol. 50(3), pages 633-663, April.
  65. Chow, G.C., 1988. "Rational Versus Adaptive Expectations In Present Value Models," Papers, Princeton, Department of Economics - Econometric Research Program 328, Princeton, Department of Economics - Econometric Research Program.
  66. Ben S. Bernanke & Ilian Mihov, 1998. "The Liquidity Effect and Long-Run Neutrality," NBER Working Papers 6608, National Bureau of Economic Research, Inc.
  67. Robert L. Hetzel, 1986. "Monetary policy in the early 1980s," Economic Review, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue Mar, pages 20-32.
  68. Baxter, Marianne, 1985. "The role of expectations in stabilization policy," Journal of Monetary Economics, Elsevier, Elsevier, vol. 15(3), pages 343-362, May.
  69. Flint Brayton & Eileen Mauskopf & David Reifschneider & Peter Tinsley & John Williams, 1997. "The role of expectations in the FRB/US macroeconomic model," Federal Reserve Bulletin, Board of Governors of the Federal Reserve System (U.S.), Board of Governors of the Federal Reserve System (U.S.), issue Apr, pages 227-245.
  70. Romer, Christina D. & Romer, David H., 1994. "Monetary policy matters," Journal of Monetary Economics, Elsevier, Elsevier, vol. 34(1), pages 75-88, August.
  71. John B. Taylor, 1982. "Union Wage Settlements During a Disinflation," NBER Working Papers 0985, National Bureau of Economic Research, Inc.
  72. Cook, Timothy & Hahn, Thomas, 1989. "The effect of changes in the federal funds rate target on market interest rates in the 1970s," Journal of Monetary Economics, Elsevier, Elsevier, vol. 24(3), pages 331-351, November.
  73. Thomas J. Sargent, 1973. "Rational Expectations, the Real Rate of Interest, and the Natural Rate of Unemployment," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 4(2), pages 429-480.
  74. Meyer, Laurence H. & Webster, Charles, 1982. "Monetary policy and rational expectations: A comparison of least squares and Bayesian learning," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 17(1), pages 67-97, January.
  75. Edmund S. Phelps, 1968. "Money-Wage Dynamics and Labor-Market Equilibrium," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 76, pages 678.
  76. Antulio Bomfim & Robert Tetlow & Peter Von Zur Muehlen & John Williams, 1997. "Expectations, learning and the costs of disinflation: experiments using the FRB/US model," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 1997-42, Board of Governors of the Federal Reserve System (U.S.).
  77. John B. Taylor, 1999. "Monetary Policy Rules," NBER Books, National Bureau of Economic Research, Inc, number tayl99-1, October.
  78. Friedman, Benjamin M., 1979. "Optimal expectations and the extreme information assumptions of `rational expectations' macromodels," Journal of Monetary Economics, Elsevier, Elsevier, vol. 5(1), pages 23-41, January.
  79. anonymous, 1994. "Federal Reserve policy promotes growth," Annual Report, Federal Reserve Bank of Cleveland, Federal Reserve Bank of Cleveland, pages 5-10.
  80. Barro, Robert J., 1976. "Rational expectations and the role of monetary policy," Journal of Monetary Economics, Elsevier, Elsevier, vol. 2(1), pages 1-32, January.
  81. Friedman, Benjamin M, 1984. "Lessons from the 1979-82 Monetary Policy Experiment," American Economic Review, American Economic Association, American Economic Association, vol. 74(2), pages 382-87, May.
  82. Taylor, John B, 1975. "Monetary Policy during a Transition to Rational Expectations," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 83(5), pages 1009-21, October.
Full references (including those not matched with items on IDEAS)

Citations

Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
as in new window

Cited by:
This item has more than 25 citations. To prevent cluttering this page, these citations are listed on a separate page.

Lists

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

Statistics

Access and download statistics

Corrections

When requesting a correction, please mention this item's handle: RePEc:fip:fedfap:98-01. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Diane Rosenberger).

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.