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A GARCH Model of Inflation and Inflation Uncertainty with Simultaneous Feedback

  • Stilianos Fountas
  • Menelaos Karanasos

    (Department of Economics, National University of Ireland, Galway)

  • Marika Karanassou

    (Department of Economics, National University of Ireland, Galway)

We examine the relationship between inflation and inflation uncertainty using a GARCH model that allows for simultaneous feedback between the conditional mean and variance of inflation. We also derive a number of theoretical econometric results and illustrate the relevance of these results with an empirical example of the US monthly inflation process. Our results show that there is strong evidence in favour of a positive bi-directional relationship between inflation and inflation uncertainty in agreement with the predictions of economic theory.

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Paper provided by National University of Ireland Galway, Department of Economics in its series Working Papers with number 0047.

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Date of creation: 2000
Date of revision: 2000
Handle: RePEc:nig:wpaper:0047
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  12. Elyasiani, Elyas & Mansur, Iqbal, 1998. "Sensitivity of the bank stock returns distribution to changes in the level and volatility of interest rate: A GARCH-M model," Journal of Banking & Finance, Elsevier, vol. 22(5), pages 535-563, May.
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  18. Hurn, A S & McDonald, A D & Moody, T, 1995. "In Search of Time-Varying Term Premia in the London Interbank Market," Scottish Journal of Political Economy, Scottish Economic Society, vol. 42(2), pages 152-64, May.
  19. Fischer, Stanley, 1981. "Towards an understanding of the costs of inflation: II," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 15(1), pages 5-41, January.
  20. Engle, Robert F, 1983. "Estimates of the Variance of U.S. Inflation Based upon the ARCH Model," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 15(3), pages 286-301, August.
  21. Engle, Robert F & Lilien, David M & Robins, Russell P, 1987. "Estimating Time Varying Risk Premia in the Term Structure: The Arch-M Model," Econometrica, Econometric Society, vol. 55(2), pages 391-407, March.
  22. Longstaff, Francis A & Schwartz, Eduardo S, 1992. " Interest Rate Volatility and the Term Structure: A Two-Factor General Equilibrium Model," Journal of Finance, American Finance Association, vol. 47(4), pages 1259-82, September.
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  24. Karanasos, Menelaos, 1999. "The second moment and the autocovariance function of the squared errors of the GARCH model," Journal of Econometrics, Elsevier, vol. 90(1), pages 63-76, May.
  25. Cosimano, Thomas F & Jansen, Dennis W, 1988. "Estimates of the Variance of U.S. Inflation Based upon the ARCH Model: A Comment," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 20(3), pages 409-21, August.
  26. Black, Angela & Fraser, Patricia, 1995. "U.K. Stock Returns: Predictability and Business Conditions," The Manchester School of Economic & Social Studies, University of Manchester, vol. 63(0), pages 85-102, Suppl..
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