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Time-varying inflation expectations and economic fluctuations in the United Kingdom: a structural VAR analysis

Author

Listed:
  • Barnett, Alina

    () (Bank of England)

  • Groen, Jan J J

    () (Federal Reserve Bank of New York)

  • Mumtaz, Haroon

    () (Bank of England)

Abstract

This paper examines how the interaction between inflation expectations and nominal and real macroeconomic variables has evolved for the United Kingdom over the post-WWII period until 2007. We model time-variation through a Markov-switching structural vector autoregressive framework with variants of the sign restriction identification scheme to back out the time-varying effect of different structural shocks. We investigate the following questions: (i) How has the impact of the mix of real and nominal shocks on the UK economy evolved over time and did this have a specific impact on UK inflation expectations? and (ii) Has there been an autonomous impact of inflation expectations on the UK economy and has it changed over time? Our results suggest that shocks to inflation expectations had important effects on actual inflation in the 1970s, but this impact had significantly declined towards the end of our sample. This seems to be mainly due to a relatively slower response of monetary policy to these shocks in the 1970s compared to later years. Similarly, oil price shocks and real demand shocks led to important changes in macroeconomic variables in the 1970s. Beyond that period and up to the end of our sample oil price shocks became less significant for the dynamics of actual inflation and output growth. However real demand shocks became a relatively more important determinant for fluctuations in those series during the 1990s and the beginning of the 2000s. The changing response of monetary policy to this type of shock appears to be crucial for this result.

Suggested Citation

  • Barnett, Alina & Groen, Jan J J & Mumtaz, Haroon, 2010. "Time-varying inflation expectations and economic fluctuations in the United Kingdom: a structural VAR analysis," Bank of England working papers 392, Bank of England.
  • Handle: RePEc:boe:boeewp:0392
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    References listed on IDEAS

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    Cited by:

    1. Eliana González & Munir Jalil & José Vicente Romero, 2010. "Inflación y expectativas de inflación en Colombia," Borradores de Economia 618, Banco de la Republica de Colombia.
    2. Maule, Becky & Pugh, Alice, 2012. "Do inflation expectations currently pose a risk to the economy?," Bank of England Quarterly Bulletin, Bank of England, vol. 53(1), pages 110-121.
    3. Harimohan, Rashmi, 2012. "How has the risk to inflation from inflation expectations evolved?," Bank of England Quarterly Bulletin, Bank of England, vol. 52(2), pages 114-123.
    4. Miles, William & Vijverberg, Chu-Ping, 2011. "Formal targets, central bank independence and inflation dynamics in the UK: A Markov-Switching approach," Journal of Macroeconomics, Elsevier, vol. 33(4), pages 644-655.
    5. Domit, Sílvia & Jackson, Chris & Roberts-Sklar , Matt, 2015. "Do inflation expectations currently pose a risk to inflation?," Bank of England Quarterly Bulletin, Bank of England, vol. 55(55), pages 165-180.
    6. Mirela Sorina Miescu, 2016. "IMF Programs and Sensitivity to External Shocks: An Empirical Application," Working Papers 791, Queen Mary University of London, School of Economics and Finance.

    More about this item

    Keywords

    Inflation expectations; Markov-switching structural VAR;

    JEL classification:

    • C10 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - General
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General

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