P* Revisited: Money-Based Inflation Forecasts with a Changing Equilibrium Velocity
23 Pages Posted: 4 Feb 1999
Date Written: May 1998
Abstract
This paper implements recursive techniques to estimate the equilibrium level of M2 velocity and to forecast inflation using the P* model. The recursive estimates of equilibrium velocity are obtained by applying regression trees and least squares methods to a standard representation of M2 demand, namely a model in which the velocity of M2 depends on the opportunity cost of holding M2 instruments. Equilibrium velocity is defined as the level of velocity that would be expected to obtain if deposit rates were at their long-run average (equilibrium) value. We simulate the alternative models to obtain real-time forecasts of inflation and evaluate the performance of the forecasts obtained from the alternative models. We find that while a P* model assuming a constant equilibrium velocity does not provide accurate inflation forecasts in the 1990s, a model based on our time-varying equilibrium velocity estimates does quite well.
JEL Classification: E30, E50
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
Monetary Policy Rules and Macroeconomic Stability: Evidence and Some Theory
By Richard Clarida, Jordi Galí, ...
-
The Science of Monetary Policy: A New Keynesian Perspective
By Richard Clarida, Jordi Galí, ...
-
The Science of Monetary Policy: a New Keynesian Perspective
By Richard Clarida, Jordi Galí, ...
-
An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy: Expanded Version
-
Monetary Policy Rules in Practice: Some International Evidence
By Richard Clarida, Jordi Galí, ...
-
Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets