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Derivation and Estimation of a New Keynesian Phillips Curve in a Small Open Economy

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  • Holmberg, Karolina

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    (Monetary Policy Department, Central Bank of Sweden)

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    Abstract

    In recent years, it has become increasingly common to estimate New Keynesian Phillips curves with a measure of firms' real marginal cost as the real driving variable. It has been argued that this measure is both theoretically and empirically superior to the traditional output gap. In this paper, a marginal-cost based New Keynesian Phillips curve is estimated on Swedish data by means of GMM and Full Information Maximum Likelihood. The results show that with real marginal cost in the structural equation the point estimates generally have the exptected positive sign, which is less frequently the case using the output gap in the Phillips curve equation. This suggests that real marginal cost might be a more adequate real explanatory variable for Swedish inflation than the output gap. However, standard errors in the estimations are large and it is in fact difficult to pin down a statistically significant relationship between either real marginal cost or the output gap and inflation.

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    Bibliographic Info

    Paper provided by Sveriges Riksbank (Central Bank of Sweden) in its series Working Paper Series with number 197.

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    Length: 30 pages
    Date of creation: 01 May 2006
    Date of revision:
    Handle: RePEc:hhs:rbnkwp:0197

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    Keywords: Inflation; New Keynesian Phillips curve; Real marginal cost; Small Open Economy; GMM; Full Information Maximum Likelihood;

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    References

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    1. Guy Meredith & Bankim Chadha & Paul R. Masson, 1991. "Models of Inflation and the Costs of Disinflation," IMF Working Papers 91/97, International Monetary Fund.
    2. Fuhrer, Jeff & Moore, George, 1995. "Inflation Persistence," The Quarterly Journal of Economics, MIT Press, vol. 110(1), pages 127-59, February.
    3. Mankiw, N Gregory, 2001. "The Inexorable and Mysterious Tradeoff between Inflation and Unemployment," Economic Journal, Royal Economic Society, vol. 111(471), pages C45-61, May.
    4. Jeremy Rudd & Karl Whelan, 2001. "New tests of the New-Keynesian Phillips curve," Finance and Economics Discussion Series 2001-30, Board of Governors of the Federal Reserve System (U.S.).
    5. David Altig & Lawrence Christiano & Martin Eichenbaum & Jesper Linde, 2011. "Firm-Specific Capital, Nominal Rigidities and the Business Cycle," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 14(2), pages 225-247, April.
    6. Gali, Jordi & Gertler, Mark & Lopez-Salido, J. David, 2001. "European inflation dynamics," European Economic Review, Elsevier, vol. 45(7), pages 1237-1270.
    7. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 2001. "Nominal rigidities and the dynamic effects of a shock to monetary policy," Working Paper 0107, Federal Reserve Bank of Cleveland.
    8. Gali, Jordi & Gertler, Mark, 1999. "Inflation dynamics: A structural econometric analysis," Journal of Monetary Economics, Elsevier, vol. 44(2), pages 195-222, October.
    9. Sbordone, Argia M., 2002. "Prices and unit labor costs: a new test of price stickiness," Journal of Monetary Economics, Elsevier, vol. 49(2), pages 265-292, March.
    10. Söderlind, Paul, 1998. "Solution and Estimation of RE Macromodels with Optimal Policy," Working Paper Series in Economics and Finance 256, Stockholm School of Economics.
    11. Gali, Jordi & Gertler, Mark & David Lopez-Salido, J., 2005. "Robustness of the estimates of the hybrid New Keynesian Phillips curve," Journal of Monetary Economics, Elsevier, vol. 52(6), pages 1107-1118, September.
    12. Mavroeidis, Sophocles, 2005. "Identification Issues in Forward-Looking Models Estimated by GMM, with an Application to the Phillips Curve," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 37(3), pages 421-48, June.
    13. Lindé, Jesper, 2001. "Estimating New-Keynesian Phillips Curves: A Full Information Maximum Likelihood Approach," Working Paper Series 129, Sveriges Riksbank (Central Bank of Sweden), revised 30 Apr 2001.
    14. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "The science of monetary policy: A new Keynesian perspective," Economics Working Papers 356, Department of Economics and Business, Universitat Pompeu Fabra, revised Apr 1999.
    15. Roberts, John M, 1995. "New Keynesian Economics and the Phillips Curve," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 27(4), pages 975-84, November.
    16. Jeremy Rudd & Karl Whelan, 2002. "Does the labor share of income drive inflation?," Finance and Economics Discussion Series 2002-30, Board of Governors of the Federal Reserve System (U.S.).
    17. Jordi Gali, 2002. "New Perspectives on Monetary Policy, Inflation, and the Business Cycle," NBER Working Papers 8767, National Bureau of Economic Research, Inc.
    18. Kurmann, Andre, 2007. "VAR-based estimation of Euler equations with an application to New Keynesian pricing," Journal of Economic Dynamics and Control, Elsevier, vol. 31(3), pages 767-796, March.
    19. Hallsten, Kerstin, 2000. "An Expectations-Augmented Phillips Curve in an Open Economy," Working Paper Series 108, Sveriges Riksbank (Central Bank of Sweden).
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    Cited by:
    1. Post, Erik, 2007. "Macroeconomic imbalances and exchange rate regime shifts," Working Paper Series 2007:4, Uppsala University, Department of Economics.
    2. Senbeta, Sisay, 2011. "A small open economy New Keynesian model for a foreign exchange constrained economy," MPRA Paper 29996, University Library of Munich, Germany.
    3. Senbeta, Sisay, 2011. "How applicable are the new keynesian DSGE models to a typical low-income economy?," MPRA Paper 30931, University Library of Munich, Germany.
    4. SENBETA, Sisay Regassa, 2013. "Informality and macroeconomic fluctuations: A small open economy New Keynesian DSGE model with dual labour markets," Working Papers 2013002, University of Antwerp, Faculty of Applied Economics.

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