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Are State and Time Dependent Models Really Different?

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  • Fernando E. Alvarez
  • Francesco Lippi
  • Juan Passadore

Abstract

Yes, but only for large monetary shocks. In particular, we show that in a broad class of models where shocks have continuous paths, the propagation of a monetary impulse is independent of the nature of the sticky price friction when shocks are small. The propagation of large shocks instead depends on the nature of the friction: the impulse response of inflation to monetary shocks is independent of the shock size in time-dependent models, while it is non-linear in state-dependent models. We use data on exchange rate devaluations and inflation for a panel of countries over 1974-2014 to test for the presence of state dependent decision rules. We present some evidence of a non-linear effect of exchange rate changes on prices in a sample of flexible-exchange rate countries with low inflation. We discuss the dimensions in which this finding is robust and the ones in which it is not.

Suggested Citation

  • Fernando E. Alvarez & Francesco Lippi & Juan Passadore, 2016. "Are State and Time Dependent Models Really Different?," NBER Working Papers 22361, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:22361
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    JEL classification:

    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General

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