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Assessing GMM Estimates of the Federal Reserve Reaction Function

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Author Info
Clémentine Florens (Université de Toulouse 1)
Eric Jondeau (Banque de France & Univ. Paris 12)
Hervé Le Bihan (Banque de France)

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Abstract

Estimating a forward-looking monetary policy rule by the Generalized Method of Moments (GMM) has become a popular approach since the influential paper by Clarida, Gali, and Gertler (1998). However , an abundant econometric literature underlines to the unappealing small- samples properties of GMM estimators. Focusing on the Federal Reserve reaction function, we assess GMM estimates in the context of monetary policy rules. First, we show that three usual alternative GMM estimators yield substantially different results. Then, we compare the GMM estimates with two Maximum-Likelihood (ML) estimates, obtained using a small model of the economy. We use Monte-Carlo simulations to investigate the empirical results. We find that the GMM are biased in small sample, inducing an overestimate of the inflation parameter . The two-step GMM estimates are found to be rather close to the ML estimates. By contrast, iterative and continuous-updating GMM procedures produce more biased and more dispersed estimators.

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Paper provided by EconWPA in its series Econometrics with number 0111003.

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Length: 29 pages
Date of creation: 27 Nov 2001
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Handle: RePEc:wpa:wuwpem:0111003

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Keywords: Forward-looking model; monetary policy reaction function; GMM estimator ; FIML estimator ; small-sample properties of an estimator .;

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Find related papers by JEL classification:
E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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  2. Clarida, Richard & Galí, Jordi & Gertler, Mark, 1998. "Monetary Policy Rules and Macroeconomic Stability: Evidence and Some Theory," CEPR Discussion Papers 1908, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. P. Siklos & M. Bohl, 2006. "Asset Prices as Indicators of Euro Area Monetary Policy: An Empirical Assessment of Their Role in a Taylor Rule," Working Papers eg0053, Wilfrid Laurier University, Department of Economics, revised 2006. [Downloadable!]
    Other versions:
  2. Ullrich, Katrin, 2003. "A Comparison Between the Fed and the ECB : Taylor Rules," ZEW Discussion Papers 03-19, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research. [Downloadable!]
  3. Gunther Schnabl & Christian Danne, 2005. "The Changing Role of the Yen/Dollar Exchange Rate for Japanese Monetary Policy," International Finance 0503001, EconWPA. [Downloadable!]
  4. Forte, Antonio, 2009. "The European Central Bank, the Federal Reserve and the Bank of England: is the Taylor Rule an useful benchmark for the last decade?," MPRA Paper 18309, University Library of Munich, Germany. [Downloadable!]
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