Band or point inflation targeting? An experimental approach

We conduct laboratory experiments with human subjects to test the rationale of adopting a band versus point inflation targeting regime. Within the standard New Keynesian model, we evaluate the macroeconomic performances of both regimes according to the strength of shocks affecting the economy. We find that when the economy faces small uncorrelated shocks, the level of inflation as well as its volatility are significantly lower in a band targeting regime, while the output gap and interest rate levels and volatility are significantly lower in a point targeting regime with tolerance bands. However, when the economy faces large uncorrelated shocks, choosing the suitable inflation targeting regime is irrelevant because both regimes lead to comparable performances. These findings stand in contrast to those of the literature and question the relevance of clarifying a mid-point target within the bands, especially in emerging market economies more inclined to large and frequent shocks.     

Monetary policy regimes and the term structure of interest rates

US monetary policy is investigated using a regime-switching no-arbitrage term structure model that relies on inflation, output, and the short interest rate as factors. The model is complemented with a set of assumptions that allow the dynamics of the private sector to be separated from monetary policy. The monetary policy regimes cannot be estimated if the yield curve is ignored during estimation. Counterfactual analysis evaluates importance of regimes in policy and shocks for the great moderation. The low-volatility regime of exogenous shocks plays an important role. Monetary policy contributes by trading off asymmetric responses of output and inflation under different regimes.     

Structural evolution of the postwar U.S. economy

We consider a time-varying parameter vector autoregressive model with stochastic volatility and mixture innovations to study the empirical relevance of the Lucas critique for the postwar U.S. economy. The model allows blocks of parameters to change at endogenously estimated points of time. Contrary to the Lucas critique, there are large changes at certain points of time in the parameters associated with monetary policy that do not correspond to changes in “reduced-form” parameters for inflation or the unemployment rate. However, the structure of the U.S. economy has evolved considerably over the postwar period, with an apparent reduction in the late 1980s in the impact of monetary policy shocks on inflation, though not on the unemployment rate. Related, we find changes in the Phillips curve tradeoff between inflation and cyclical unemployment (measured as the deviation from the time-varying steady-state unemployment rate implied by the model) in the 1970s and especially since the mid-1990s.     

Inversion copulas from nonlinear state space models with an application to inflation forecasting

We propose the construction of copulas through the inversion of nonlinear state space models. These copulas allow for new time series models that have the same serial dependence structure as a state space model, but with an arbitrary marginal distribution, and flexible density forecasts. We examine the time series properties of the copulas, outline serial dependence measures, and estimate the models using likelihood-based methods. Copulas constructed from three example state space models are considered: a stochastic volatility model with an unobserved component, a Markov switching autoregression, and a Gaussian linear unobserved component model. We show that all three inversion copulas with flexible margins improve the fit and density forecasts of quarterly U.S. broad inflation and electricity inflation.     

Openness and inflation volatility: Panel data evidence

Trade openness can affect inflation volatility via the incentives faced by policy-makers or the structure of production and consumption, but the sign of this effect, as predicted from economic theory, is ambiguous. This paper provides evidence for a negative effect of openness on inflation volatility using a dynamic panel model that controls for the endogeneity of openness and the effects of both average inflation and the exchange rate regime. Our results offer one explanation for the recent decline in inflation volatility observed in many countries. The relationship is shown to be strongest amongst developing and emerging market economies, and we argue that the mechanisms linking openness and inflation volatility are likely to be strongest amongst this group of countries.     

波动和相关的一致性与差异及传染的阶段特征

本文首次分析了市场波动和相关的一致性与差异,并进而考察金融危机期间传染的阶段特征。研究表明,危机期间,高波动与高相关具有较高的一致性,其他时期则存在差异;几乎不会出现高波动低相关的情形,但并非总是波动性的增加引致了关联水平的上升,关联水平的上升也可能会先于波动性的增加;危机初期,市场需要对复杂的信息进行不断地识别和过滤,以至于波动机制、相关机制都存在较为频繁的转换;次贷危机、欧洲主权债务危机的传染具有系统性特征。     

Asymmetric Quantile Persistence and Predictability: the Case of US Inflation

This article investigates the evidence of time‐variation and asymmetry in the persistence of US inflation. We compare the out‐of‐sample performance of different forecasting models and find that quantile forecasts from an Auto‐Regressive (AR) model with level‐dependent volatility are at least as accurate as the forecasts of the Quantile Auto‐Regressive model, in particular for the core inflation measures. Our results indicate that the persistence of core inflation has been relatively constant and high, but it declined for the headline inflation measures. We also find that the asymmetric persistence of inflation shocks can be mostly attributed to the positive relation between inflation level and its volatility.     

Implications of ERM2 for Poland's monetary policy

We propose an extension to the inflation targeting regime currently pursued by Poland. It incorporates the exchange rate stability constraints as imposed by the obligatory participation in the ERM2 that Poland needs to satisfy prior to adopting the euro. The modified policy is based on the forward-looking inflation targeting supplemented with the exchange rate stability objective. Its effective implementation depends on the determined long-term equilibrium exchange rate and the observed degree of exchange rate volatility. Both are empirically estimated by employing the Johansen cointegration tests and the threshold generalized autoregressive heteroscedasticity model with the in-mean extension and generalized error distribution (TGARCH-M-GED).     

Some empirical evidence on the real effects of nominal volatility

It has been argued that volatility in nominal macroeconomic aggregates has had a negative effect on real output, in particular that such volatility contributed to slow output growth in the early 1980s. This paper reexamines the effects of volatility in nominal macroeconomic aggregates in the context of a modern simultaneous equation framework where the volatility of, nominal macroeconomic variables is modeled as the conditional variance of two variables of interest: the federal funds rate and inflation. The empirical framework is the recently developed multivariate GARCH-in-mean vector autoregressive model. We confirm evidence that inflation volatility and tight monetary policy have directly affected output growth, but find that volatility in the federal funds rate has not.     

Sources of volatility persistence: A case study of the U.K. pound/U.S. dollar exchange rate returns

This paper utilizes a new approach to examine the inherent nonlinear dynamics of the exchange rate returns volatility. Specifically, we utilize a regime switching threshold (i) generalized autoregressive conditional heteroskedasticity (RS-TGARCH) and (ii) a fractional generalized autoregressive conditional heteroskedasticity (RS-TFIGARCH) model. The RS-TGARCH model is found to be adequate in analyzing the first two moments of the U.K. pound/U.S. dollar monthly exchange rate returns series. The RS-TFIGARCH is found to be adequate for the daily returns series. The volatility persistence and leverage effects associated with exchange rate returns series are jointly tested by means of a Wald Chi-square test.     

Evolving United States stock market volatility: The role of conventional and unconventional monetary policies

Despite the econometric advances of the last 30 years, the effects of monetary policy stance during the boom and busts of the stock market are not clearly defined. In this paper, we use a structural heterogeneous vector autoregressive (SHVAR) model with identified structural breaks to analyse the impact of both conventional and unconventional monetary policies on U.S. stock market volatility. We find that contractionary monetary policy enhances stock market volatility, but the importance of monetary policy shocks in explaining volatility evolves across different regimes and is relative to supply shocks (and shocks to volatility itself). In comparison to business cycle fluctuations, monetary policy shocks explain a greater fraction of the variance of stock market volatility at shorter horizons, as in medium to longer horizons. Our basic findings of a positive impact of monetary policy on equity market volatility (being relatively stronger during calmer stock market periods) are also corroborated by analyses conducted at the daily frequency based on an augmented heterogeneous autoregressive model of realised volatility (HAR-RV) and a multivariate k-th order nonparametric causality-in-quantiles framework. Our results have important implications both for investors and policymakers.     

Stochastic volatility models with ARMA innovations: An application to G7 inflation forecasts

We introduce a new class of stochastic volatility models with autoregressive moving average (ARMA) innovations. The conditional mean process has a flexible form that can accommodate both a state space representation and a conventional dynamic regression. The ARMA component introduces serial dependence, which results in standard Kalman filter techniques not being directly applicable. To overcome this hurdle, we develop an efficient posterior simulator that builds on recently developed precision-based algorithms. We assess the usefulness of these new models in an inflation forecasting exercise across all G7 economies. We find that the new models generally provide competitive point and density forecasts compared to standard benchmarks, and are especially useful for Canada, France, Italy, and the U.S.     

WAS THE GOLD STANDARD REALLY DESTABILIZING?

This paper investigates the extent to which the high macroeconomic volatility experienced in the classical Gold Standard era of US history can be attributed to the monetary policy regime per se as distinct from other shocks. For this purpose, we estimate a small dynamic stochastic general equilibrium model for the classical Gold Standard era. We use this model to conduct a counterfactual experiment to assess whether a monetary policy conducted on the basis of a Taylor rule characterizing the Great Moderation data would have led to different outcomes for macroeconomic volatility and welfare in the Gold Standard era. The counterfactual Taylor rule significantly reduces inflation volatility, but at the cost of higher real‐money and interest‐rate volatility. Output volatility is very similar. The end result is no welfare improvement. Copyright © 2012 John Wiley & Sons, Ltd.     

Asymmetric volatility spillovers between international economic policy uncertainty and the U.S. stock market

This paper studies the asymmetric spillover effect of important economic policy uncertainty (EPU) on the S&P500 index. We use monthly EPU indexes from Australia, Canada, China, Japan, the U.K. and the U.S. and the realized volatility of the U.S. stock market to study the asymmetric pairwise directional spillovers on the U.S. stock market from 2000 to 2019. We find that S&P500 index volatility is a net recipient of spillovers from important EPU indexes. Japanese EPU has the strongest spillover effect on the U.S. stock markets, while EPU from the U.K. plays a very limited role. By decomposing the volatility into good and bad volatility, we find that the relationship between bad stock market volatility and EPU is stronger than between good volatility and EPU. Time-varying spillover characteristics show that bad volatility reacts more strongly to shocks in EPU following the debt crisis and trade negotiations. Several robustness checks are provided to verify the novelty of these findings.     

Testing for optimal monetary policy via moment inequalities

The specification of an optimizing model of the monetary transmission mechanism requires selecting a policy regime: commonly, commitment or discretion. In this paper we propose a new procedure for testing optimal monetary policy, relying on moment inequalities that nest commitment and discretion as two special cases. The approach is based on the derivation of bounds for inflation that are consistent with optimal policy under either policy regime. We derive testable implications that allow for specification tests and discrimination between the two alternative regimes. The proposed procedure is implemented to examine the conduct of monetary policy in the US economy.     

A multiple regime smooth transition Heterogeneous Autoregressive model for long memory and asymmetries

In this paper we propose a flexible model to describe nonlinearities and long-range dependence in time series dynamics. The new model is a multiple regime smooth transition extension of the Heterogeneous Autoregressive (HAR) model, which is specifically designed to model the behavior of the volatility inherent in financial time series. The model is able to simultaneously approximate long memory behavior, as well as describe sign and size asymmetries. A sequence of tests is developed to determine the number of regimes, and an estimation and testing procedure is presented. Monte Carlo simulations evaluate the finite-sample properties of the proposed tests and estimation procedures. We apply the model to several Dow Jones Industrial Average index stocks using transaction level data from the Trades and Quotes database that covers ten years of data. We find strong support for long memory and both sign and size asymmetries. Furthermore, the new model, when combined with the linear HAR model, is viable and flexible for purposes of forecasting volatility.     

Trend growth and learning about monetary policy rules

The paper examines the effect of trend productivity growth on the determinacy and learnability of equilibria under alternative monetary policy rules. Under zero trend inflation we show that the economic structure is isomorphic to that of Bullard and Mitra (2002) and show that under a policy rule that responds to current period inflation and output a higher trend growth rate relaxes the conditions for determinacy and learnability. Results are mixed for other policy rules. Under the expectations-based rule, trend growth tightens the conditions for determinacy but it relaxes the conditions for learnability. Under the lagged-data-based rule, trend growth tightens the conditions for determinacy and learnability. Our analysis shows that lower (higher) trend growth has similar effects as higher (lower) trend inflation in the sense of making inflation more (less) forward-looking. Thus, our results complement previous studies on the role of high trend inflation as a cause of macroeconomic volatility in the U.S. in the 1970s, as this period was also characterized by productivity growth slowdown.     

The effect of exchange rate volatility on U.S. bilateral trade with Africa: A symmetric and asymmetric analysis

The impact of exchange rate volatility on U.S. trade with the world or on U.S. trade with major partners has been assessed by many researchers, but none have considered the case of U.S. trade with African nations. We fill this gap by assessing the symmetric and asymmetric impact of the real bilateral exchange rate volatility between the U.S. dollar and each African partner’s currency on the U.S. trade flows with each of the 20 partners from Africa. We found asymmetric short-run effects of exchange rate volatility on almost all U.S. exports to and imports from each of the 20 countries. In addition, significant long-run asymmetric effects were discovered in the case of U.S. exports to 15 countries and U.S. imports from 12 countries. Our findings are partner-specific.     

Price dynamics when there are alternatives to cash payment

Empirical evidence from the 1980s and 1990s indicates that cash use in the U.S. remains high even though there has been a proliferation of alternatives to cash. This paper examines the dynamics of inflation and asset prices in response to innovations in the efficiency of processing noncash transactions. The quantitative results suggest that inflation is more sensitive than nominal interest rates or real equity prices to innovations in the efficiency of non-cash payments processing. Thus, as alternatives to cash payment become more prominent, the volatility of real interest rates may increase.(JELE31, E41, G12) This research is supported by a Swarthmore College Faculty Research Grant and a Eugene M. Lang Faculty Fellowship.     

LONG‐RUN RISKS IN THE TERM STRUCTURE OF INTEREST RATES: ESTIMATION

This paper estimates a model in which persistent fluctuations in expected consumption growth, expected inflation, and their time‐varying volatility determine asset price variation. The model features Epstein–Zin recursive preferences, which determine the market price of macro risk factors. Analysis of the US nominal term structure data from 1953 to 2006 shows that agents dislike high uncertainty and demand compensation for volatility risks. Also, the time variation of the term premium is driven by the compensation for inflation volatility risk, which is distinct from consumption volatility risk. The central role of inflation volatility risk in explaining the time‐varying term premium is consistent with other empirical evidence including survey data. In contrast, the existing long‐run risks literature emphasizes consumption volatility risk and ignores inflation‐specific time‐varying volatility. The estimation results of this paper suggest that inflation‐specific volatility risk is essential for fitting the time series of the US nominal term structure data. Copyright © 2012 John Wiley & Sons, Ltd.