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Inflation models, optimal monetary policy and uncertain unemployment dynamics: Evidence from the US and the euro area

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Author Info
Carlo Altavilla
Matteo Ciccarelli

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Abstract

This paper explores the role that model uncertainty plays in determining the effect of monetary policy shocks on unemployment dynamics in the euro area and the US. We specify a range of BVARs that differ in terms of variables, lag structure, and the way the inflation process is modelled. For each model the central bank sets the interest rate minimizing a loss function. Given this solution, we quantify the impact of a monetary policy shock on unemployment for each model, and measure the degree of uncertainty as represented by the dispersion of both the policy rule parameters and the impulse response functions between models. The comparative evidence from the US and the euro area data indicates that model uncertainty is indeed an important feature, and that a model combination strategy might be a valuable advise to policymakers.

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Paper provided by D.E.S. (Department of Economic Studies), University of Naples "Parthenope", Italy in its series Discussion Papers with number 8_2008.

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Date of creation: 30 Jun 2008
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Handle: RePEc:prt:dpaper:8_2008

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Related research
Keywords: Inflation models; Unemployment; Model uncertainty; Taylor rule; Impulse response analysis;

Find related papers by JEL classification:
C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Other Model Applications
E24 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution
E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation

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