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The quantitative significance of the Lucas critique

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  • Preston J. Miller
  • William Roberds

Abstract

Doan, Litterman, and Sims (DLS) have suggested using conditional forecasts to do policy analysis with Bayesian vector autoregression (BVAR) models. Their method seems to violate the Lucas critique, which implies that coefficients of a BVAR model will change when there is a change in policy rules. In this paper we construct a BVAR macro model and attempt to determine whether the Lucas critique is important quantitatively. We find evidence following two candidate policy rule changes of significant coefficient instability and of a deterioration in the performance of the DLS method.

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  • Preston J. Miller & William Roberds, 1987. "The quantitative significance of the Lucas critique," Staff Report 109, Federal Reserve Bank of Minneapolis.
  • Handle: RePEc:fip:fedmsr:109
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    References listed on IDEAS

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    1. Chari, V. V. & Christiano, Lawrence J. & Kehoe, Patrick J., 1996. "Optimality of the Friedman rule in economies with distorting taxes," Journal of Monetary Economics, Elsevier, vol. 37(2-3), pages 203-223, April.
    2. Kimbrough, Kent P., 1986. "The optimum quantity of money rule in the theory of public finance," Journal of Monetary Economics, Elsevier, vol. 18(3), pages 277-284, November.
    3. Bernheim, B Douglas, 1991. "Optimal Fiscal and Monetary Policy: Some Recent Results," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 23(3), pages 540-542, August.
    4. Faig, Miquel, 1988. "Characterization of the optimal tax on money when it functions as a medium of exchange," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 137-148, July.
    5. Chari, V V & Christiano, Lawrence J & Kehoe, Patrick J, 1991. "Optimal Fiscal and Monetary Policy: Some Recent Results," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 23(3), pages 519-539, August.
    6. Diamond, Peter A & Mirrlees, James A, 1971. "Optimal Taxation and Public Production: I--Production Efficiency," American Economic Review, American Economic Association, vol. 61(1), pages 8-27, March.
    7. Lucas, Robert Jr. & Stokey, Nancy L., 1983. "Optimal fiscal and monetary policy in an economy without capital," Journal of Monetary Economics, Elsevier, vol. 12(1), pages 55-93.
    8. Atkinson, A. B. & Stiglitz, J. E., 1972. "The structure of indirect taxation and economic efficiency," Journal of Public Economics, Elsevier, vol. 1(1), pages 97-119, April.
    9. Guidotti, Pablo E. & Vegh, Carlos A., 1993. "The optimal inflation tax when money reduces transactions costs : A reconsideration," Journal of Monetary Economics, Elsevier, vol. 31(2), pages 189-205, April.
    10. Timothy J. Kehoe & David K. Levine & Michael Woodford, 1990. "The optimum quantity of money revisited," Working Papers 404, Federal Reserve Bank of Minneapolis.
    11. Woodford, Michael, 1990. "The optimum quantity of money," Handbook of Monetary Economics,in: B. M. Friedman & F. H. Hahn (ed.), Handbook of Monetary Economics, edition 1, volume 2, chapter 20, pages 1067-1152 Elsevier.
    12. Peter A. Diamond & J. A. Mirrlees, 1968. "Optimal Taxation and Public Production," Working papers 22, Massachusetts Institute of Technology (MIT), Department of Economics.
    13. Diamond, Peter A & Mirrlees, James A, 1971. "Optimal Taxation and Public Production II: Tax Rules," American Economic Review, American Economic Association, vol. 61(3), pages 261-278, June.
    14. Kimbrough, Kent P, 1986. "Inflation, Employment, and Welfare in the Presence of Transactions Costs," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 18(2), pages 127-140, May.
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    Cited by:

    1. Preston J. Miller & William Roberds, 1992. "How little we know about deficit policy effects," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 2-11.
    2. David E. Runkle, 1989. "The U.S. economy in 1990 and 1991: continued expansion likely," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall, pages 19-26.
    3. Daniel M. Chin & John F. Geweke & Preston J. Miller, 2000. "Predicting turning points," Staff Report 267, Federal Reserve Bank of Minneapolis.
    4. Leeper, Eric M. & Zha, Tao, 2003. "Modest policy interventions," Journal of Monetary Economics, Elsevier, vol. 50(8), pages 1673-1700, November.
    5. Daniel F. Waggoner & Tao Zha, 1999. "Conditional Forecasts In Dynamic Multivariate Models," The Review of Economics and Statistics, MIT Press, pages 639-651.
    6. Dan Chin & John Geweke & Preston Miller, 2000. "Predicting Turning Points: Technical Paper 2000-3," Working Papers 13337, Congressional Budget Office.
    7. Geweke, John, 1996. "Monte carlo simulation and numerical integration," Handbook of Computational Economics,in: H. M. Amman & D. A. Kendrick & J. Rust (ed.), Handbook of Computational Economics, edition 1, volume 1, chapter 15, pages 731-800 Elsevier.
    8. Arturo Estrella & Jeffrey C. Fuhrer, 2003. "Monetary Policy Shifts and the Stability of Monetary Policy Models," The Review of Economics and Statistics, MIT Press, vol. 85(1), pages 94-104, February.
    9. Miller, Preston J. & Todd, Richard M., 1995. "Real effects of monetary policy in a world economy," Journal of Economic Dynamics and Control, Elsevier, vol. 19(1-2), pages 125-153.
    10. Preston J. Miller & David E. Runkle, 1989. "The U.S. economy in 1989 and 1990: walking a fine line," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 3-10.
    11. Freeman, John R., 1996. "A Computable Equilibrium Model for the Study of Political Economy," Bulletins 7484, University of Minnesota, Economic Development Center.
    12. Ken Burdett & Randall Wright, 1998. "Two-Sided Search with Nontransferable Utility," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, pages 220-245.
    13. repec:adr:anecst:y:2002:i:67-68:p:16 is not listed on IDEAS
    14. Preston J. Miller & William Roberds, 1989. "How little we know about budget policy effects," Staff Report 120, Federal Reserve Bank of Minneapolis.

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    Keywords

    Forecasting ; Vector autoregression;

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