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The Real Interest rate Gap as an Inflation Indicator

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  • Neiss, Katharine
  • Nelson, Edward

Abstract

A long-standing area of research and policy interest has been the construction of a measure of monetary policy stance. One measure that has been proposed?as an alternative to indices that employ monetary aggregates or exchange rates?is the spread between the actual real interest rate and its flexible-price, or natural-rate, counterpart. We examine the properties of the natural real interest rate and ?real interest rate gap? using a dynamic stochastic general equilibrium model. Issues we investigate include: (1) the response of the gap and its components to fundamental economic shocks; and (2) the indicator and forecasting properties of the real interest rate gap for inflation, both in the model and in the data. Our results suggest that the real interest rate gap has value as an inflation indicator, supporting the ?neo-Wicksellian framework? advocated by Woodford (2000).

Suggested Citation

  • Neiss, Katharine & Nelson, Edward, 2001. "The Real Interest rate Gap as an Inflation Indicator," CEPR Discussion Papers 2848, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:2848
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    More about this item

    Keywords

    Natural interest rate; Monetary policy; inflation; Output gap; Real interest rate gap;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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