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Observed Inflation Forecasts and the New Keynesian Phillips Curve

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  • Chengsi Zhang

    ()
    (School of finance, Renmin University of China, China)

  • Denise R. Osborn

    ()
    (Center for Growth and Business Cycle Research, Economics,University of Manchester, UK)

  • Dong Heon Kim

    ()
    (Department of Economics, Korea University, Seoul, South Korea)

Abstract

Empirical estimations of the micro-founded New Keynesian Phillips Curve (NKPC) using rational inflation expectation proxies have often found that the output gap is an invalid measure of inflation pressure. This paper investigates the empirical success of the NKPC in explaining US inflation when observed measures of inflation expectations are used in conjunction with the output gap. The paper also contributes to the literature by addressing the important problem of serial correlation in the stylized NKPC and developing an extended model to account for this serial correlation. Contrary to recent results indicating no role for the output gap, we find it to be a statistically significant driving variable for inflation, with this finding robust to whether the inflation expectations series used relates to individual consumers, professional forecasters or the US Fed. In most of our estimations, however, lagged inflation dominates the role of inflation expectations, casting doubt on the extent to which price setting is forward-looking over the period 1968 to 2005. From an econometric perspective, the paper uses GMM estimation to account for endogeneity while also addressing concerns raised in recent studies about weak instrumental variables used in estimating NKPC models.

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Bibliographic Info

Paper provided by Institute of Economic Research, Korea University in its series Discussion Paper Series with number 0801.

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Length: 30 pages
Date of creation: 2008
Date of revision:
Handle: RePEc:iek:wpaper:0801

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Keywords: New Keynesian Phillips Curve; serial correlation; GMM; inflation forecasts;

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Cited by:
  1. Kortelainen, Mika & Paloviita, Maritta & Viren, Matti, 2011. "Observed inflation forecasts and the new Keynesian macro model," Economics Letters, Elsevier, Elsevier, vol. 112(1), pages 88-90, July.
  2. Abbas, Syed Kanwar & Sgro, Pasquale M., 2011. "New Keynesian Phillips Curve and inflation dynamics in Australia," Economic Modelling, Elsevier, Elsevier, vol. 28(4), pages 2022-2033, July.
  3. Sophocles Mavroeidis & Mikkel Plagborg-Møller & James H. Stock, 2014. "Empirical Evidence on Inflation Expectations in the New Keynesian Phillips Curve," Journal of Economic Literature, American Economic Association, American Economic Association, vol. 52(1), pages 124-88, March.
  4. Borek Vasicek, 2009. "Inflation dynamics and the New Keynesian Phillips curve in EU-4," William Davidson Institute Working Papers Series, William Davidson Institute at the University of Michigan wp971, William Davidson Institute at the University of Michigan.

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