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Threshold effects in the monetary policy reaction function of the Deutsche Bundesbank

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  • Mandler, Martin

Abstract

We estimate monetary policy reaction functions with threshold effects for the Deutsche Bundesbank using a real-time data set. Estimates based on the deviation of inflation from the Bundesbank's inflation target as threshold variable suggest a switch to a stronger output gap response in the reaction function if past inflation was high. The reaction function in the regime with higher inflation implies an overall less contractionary monetary policy than that for the low inflation regime. A modified model with three regimes shows this result to be related to periods of substantial excess inflation. We explore a threshold reaction function with a moving inflation target that captures a gradual adjustment of an intermediate to a long-term inflation target and find the Bundesbank to follow a more restrictive monetary policy stance if inflation is above the intermediate-term inflation target.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 32430.

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Date of creation: Jul 2011
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Handle: RePEc:pra:mprapa:32430

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Keywords: Deutsche Bundesbank; monetary policy reaction function; threshold regression; instrumental variables; real-time data;

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