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Do monetary indicators lead euro area inflation?

  • Hofmann, Boris

This paper assesses the performance of monetary indicators as well as of a large range of economic and financial indicators in predicting euro area HICP inflation out-of-sample over the period first quarter 1999 till third quarter 2006 considering standard bivariate forecasting models, factor models, simple combination forecasts as well as trivariate two-pillar Phillips Curve forecasting models using both ex-post revised and real-time data. The results suggest that the predictive ability of money-based forecasts relative to a simple random walk benchmark model was high at medium-term forecasting horizons in the early years of EMU, but has substantially deteriorated recently. A significantly improved forecasting performance vis-à-vis the random walk can, however, be achieved based on the ECB’s internal M3 series corrected for the effects of portfolio shifts and by combining monetary and economic indicators. JEL Classification: E31, E40, C32

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Paper provided by European Central Bank in its series Working Paper Series with number 0867.

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Date of creation: Feb 2008
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Handle: RePEc:ecb:ecbwps:20080867
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