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Get the Lowdown: The International Side of the Fall in the U.S. Natural Rate of Interest

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Abstract

I investigate the downward drift of U.S. interest rates from 1984:Q1 to 2019:Q4. For this, I bring the workhorse two-country New Keynesian model to data on the U.S. and an aggregate of its major trading partners using Bayesian techniques. I show that the U.S. natural (or equilibrium) interest rate recovered from the model has fallen more gradually than the long-run U.S. real rate, cushioned by productivity shocks. Since inflation expectations became well-anchored in the ‘90s, this implies that the continued interest rate decline is largely explained by the real rate tracking the natural rate downward. Foreign productivity spillovers have had significant effects on the U.S. natural rate and on U.S. output potential. However, foreign shock propagation contributed little to the upswing in U.S. output relative to potential or to sustaining inflation close to target, both of which are attributed almost entirely to mark-up compression (cost-push shocks) and an accommodative monetary policy in the U.S.

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  • Enrique Martínez García, 2020. "Get the Lowdown: The International Side of the Fall in the U.S. Natural Rate of Interest," Globalization Institute Working Papers 403, Federal Reserve Bank of Dallas, revised 20 Feb 2021.
    • Handle: RePEc:fip:feddgw:88968
    DOI: 10.24149/gwp403r1
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    Keywords

    Open-Economy New Keynesian Model; Monetary Policy; Wicksellian Natural Rate; Survey Expectations; Bayesian Estimation;
    All these keywords.

    JEL classification:

    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • F42 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Policy Coordination and Transmission
    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General

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