A panel analysis of the fisher effect with an unobserved I(1) world real interest rate |
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| Institution: | 1. LEE & Economics Dept., University Jaume I, 12071 Castellón, Spain;2. School of Agriculture Policy and Development, University of Reading, UK and LEE & Economics Dept., University Jaume I, Castellón, Spain;3. Political Science Dept., University of Crete and Institute of Applied & Computational Mathematics, Foundation for Research and Technology Hellas and Dusseldorf Institute for Competition Economics, University of Dusseldorf, Germany;4. Economics and Finance Subject Group, Portsmouth Business School, University of Portsmouth, Richmond Building, Portland Street, Portsmouth, Hampshire PO1 3DE, UK;5. Economics Dept., University of Crete, Greece;1. Wang Yanan Institute for Studies in Economics, MOE Key Lab of Econometrics, Xiamen University, Xiamen, Fujian 361005, China;2. Fujian Key Lab of Statistical Sciences, Xiamen University, Xiamen, Fujian 361005, China;3. Department of Finance, School of Economics, Xiamen University, Fujian 361005, China |
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| Abstract: | The Fisher effect states that inflation expectations should be reflected in nominal interest rates in a one-for-one manner to compensate for changes in the purchasing power of money. Despite its wide acceptance in theory, much of the empirical work fails to find favorable evidence. This paper examines the Fisher effect in a panel of 21 OECD countries over the period 1983–2010. Using the Panel Analysis of Non-stationarity in Idiosyncratic and Common Components (PANIC), a non-stationary common factor is detected in the real interest rate. This may reflect permanent common shifts in e.g. time preferences, risk aversion and the steady-state growth rate of technological change. We therefore control for an unobserved non-stationary common factor in estimating the Fisher equation using both the Common Correlated Effects Pooled (CCEP) and the Continuously Updated (Cup) estimation approach. The impact of inflation on the nominal interest rate is found to be insignificantly different from 1, providing support of the Fisher effect. |
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