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Inflation expectations and regime shifts in the euro area

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  • Virén , Matti

    ()
    (Bank of Finland and University of Turku)

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    Abstract

    This paper focuses on the determination of inflation expectations. The following two questions are exam-ined: How much do inflation expectations reflect different economic and institutional regime shifts and in which way do inflation expectations adjust to past inflation? The basic idea in the analysis is an assump-tion that inflation expectations do not mechanically reflect past inflation as may econometric specification de facto assume but rather they depend on the relevant economic regime. Also the adjustment of expecta-tions to past inflation is different in different inflation regimes. The regime analysis is based on panel data from EMU/EU countries for the period 1973–2004, while the inflation adjustment analysis mainly uses the Kalman filter technique for individual countries for the same period. Expectations (forecasts) are de-rived from OECD data. Empirical results strongly favour the regime-sensitivity hypothesis and provide an explanation for the poor performance of conventional estimation procedures in the context of Phillips curves.

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    File URL: http://www.suomenpankki.fi/en/julkaisut/tutkimukset/keskustelualoitteet/Documents/0525netti.pdf
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    Bibliographic Info

    Paper provided by Bank of Finland in its series Research Discussion Papers with number 25/2005.

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    Length: 29 pages
    Date of creation: 11 Oct 2005
    Date of revision:
    Handle: RePEc:hhs:bofrdp:2005_025

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    Postal: Bank of Finland, P.O. Box 160, FI-00101 Helsinki, Finland
    Web page: http://www.suomenpankki.fi/en/
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    Related research

    Keywords: inflation expectations; Kalman filter; stability;

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    References

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    1. N. Gregory Mankiw & Ricardo Reis & Justin Wolfers, 2003. "Disagreement about Inflation Expectations," NBER Working Papers 9796, National Bureau of Economic Research, Inc.
    2. Klaus Adam & Mario Padula, 2002. "Inflation Dynamics and Subjective Expectations in the United States," CSEF Working Papers 78, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy, revised 02 Jun 2009.
    3. Barsky, Robert B., 1987. "The Fisher hypothesis and the forecastability and persistence of inflation," Journal of Monetary Economics, Elsevier, vol. 19(1), pages 3-24, January.
    4. Linzert, Tobias, 2005. "The Unemployment Inflation Trade-Off in the Euro Area," IZA Discussion Papers 1699, Institute for the Study of Labor (IZA).
    5. Rochelle M. Edge & Thomas Laubach & John C. Williams, 2004. "Learning and shifts in long-run productivity growth," Working Paper Series 2004-04, Federal Reserve Bank of San Francisco.
    6. Feng Zhu, 2005. "The fragility of the Phillips curve: A bumpy ride in the frequency domain," BIS Working Papers 183, Bank for International Settlements.
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