Estimating Regime-Switching Taylor Rules with Trend Inflation

43 Pages Posted: 16 Sep 2008

See all articles by Efrem Castelnuovo

Efrem Castelnuovo

University of Melbourne - Department of Economics

Luciano G. Greco

University of Padua - Department of Economics

Davide Raggi

University of Bologna - Department of Economics

Date Written: September 12, 2008

Abstract

This paper estimates regime-switching monetary policy rules featuring trend inflation using post-WWII US data. We find evidence in favour of regime shifts and time-variation of the inflation target. We also find a drop in the inflation gap persistence when entering the Great Moderation sample. Estimated Taylor rule parameters and regimes are robust across different monetary policy models. We propose an 'internal consistency' test to discriminate among our estimated rules. Such a test relies upon a feedback mechanism running from the monetary policy stance to the inflation gap. Our results support the stochastic autoregressive process as the most consistent model for trend inflation, above all when conditioning to the post-1985 subsample.

Keywords: active and passive Taylor rules, trend inflation, inflation gap persistence, Markov-switching models

JEL Classification: E52, E61, E62

Suggested Citation

Castelnuovo, Efrem and Greco, Luciano G. and Raggi, Davide, Estimating Regime-Switching Taylor Rules with Trend Inflation (September 12, 2008). Bank of Finland Research Discussion Paper No. 20/2008. Available at SSRN: https://ssrn.com/abstract=1268332 or http://dx.doi.org/10.2139/ssrn.1268332

Efrem Castelnuovo (Contact Author)

University of Melbourne - Department of Economics ( email )

Melbourne, 3010
Australia

HOME PAGE: http://https://sites.google.com/site/efremcastelnuovo/home

Luciano G. Greco

University of Padua - Department of Economics ( email )

via Del Santo 33
Padova, 35123
Italy

Davide Raggi

University of Bologna - Department of Economics ( email )

Piazza Scaravilli 2
Bologna, 40126
Italy

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