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Near-Rationality and Inflation in Two Monetary Regimes

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  • Laurence Ball

Abstract

Sticky-price models with rational expectations fail to capture the inertia in US inflation Models with backward-looking expectations capture current inflation behavior but are unlikely to fit other monetary regimes This paper seeks to overcome these problems with a near-rational model of expectations In the model agents make univariate forecasts of inflation: they use information on past inflation optimally but they ignore other variables The paper tests sticky-price models with near-rational expectations for two periods in US history the post-1960 period of persistent inflation and the period from 1879 to 1914 when inflation was not persistent The models fit the data for both periods; in contrast both rational-expectations and backward-looking models fail for at least one period

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Bibliographic Info

Paper provided by The Johns Hopkins University,Department of Economics in its series Economics Working Paper Archive with number 435.

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Date of creation: Oct 2000
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Handle: RePEc:jhu:papers:435

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  5. N. Gregory Mankiw, 2000. "The Inexorable and Mysterious Tradeoff Between Inflation and Unemployment," NBER Working Papers 7884, National Bureau of Economic Research, Inc.
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  7. Jeffrey C. Fuhrer, 1995. "The [un]importance of forward-looking behavior in price specifications," Working Papers 95-6, Federal Reserve Bank of Boston.
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  9. John H. Cochrane, 1989. "The Sensitivity of Tests of the Intertemporal Allocation of Consumption to Near-Rational Alternatives," NBER Working Papers 2730, National Bureau of Economic Research, Inc.
  10. Alogoskoufis, George S & Smith, Ron, 1991. "The Phillips Curve, the Persistence of Inflation, and the Lucas Critique: Evidence from Exchange-Rate Regimes," American Economic Review, American Economic Association, vol. 81(5), pages 1254-75, December.
  11. Marvin Goodfriend & Robert G. King, 1998. "The new neoclassical synthesis and the role of monetary policy," Working Paper 98-05, Federal Reserve Bank of Richmond.
  12. Christiano, Lawrence J & Eichenbaum, Martin & Evans, Charles, 1996. "The Effects of Monetary Policy Shocks: Evidence from the Flow of Funds," The Review of Economics and Statistics, MIT Press, vol. 78(1), pages 16-34, February.
  13. John M. Roberts, 1994. "Is inflation sticky?," Working Paper Series / Economic Activity Section 152, Board of Governors of the Federal Reserve System (U.S.).
  14. 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.
  15. Laurence Ball, 1991. "The Genesis of Inflation and the Costs of Disinflation," NBER Working Papers 3621, National Bureau of Economic Research, Inc.
  16. Lucas, Robert E, Jr, 1973. "Some International Evidence on Output-Inflation Tradeoffs," American Economic Review, American Economic Association, vol. 63(3), pages 326-34, June.
  17. Akerlof, George A & Yellen, Janet L, 1985. "Can Small Deviations from Rationality Make Significant Differences to Economic Equilibria?," American Economic Review, American Economic Association, vol. 75(4), pages 708-20, September.
  18. McCallum, Bennett T, 1976. "Rational Expectations and the Natural Rate Hypothesis: Some Consistent Estimates," Econometrica, Econometric Society, vol. 44(1), pages 43-52, January.
  19. Julio Rotemberg & Michael Woodford, 1997. "An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 297-361 National Bureau of Economic Research, Inc.
  20. Blanchard, Olivier Jean & Summers, Lawrence H, 1988. "Beyond the Natural Rate Hypothesis," American Economic Review, American Economic Association, vol. 78(2), pages 182-87, May.
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  22. Fischer, Stanley, 1977. "Long-Term Contracts, Rational Expectations, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 85(1), pages 191-205, February.
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