Fortune or Virtue: Time-Variant Volatilities Versus Parameter Drifting in U.S. Data

72 Pages Posted: 26 Apr 2010 Last revised: 11 Jul 2010

See all articles by Jesús Fernández-Villaverde

Jesús Fernández-Villaverde

University of Pennsylvania - Department of Economics; National Bureau of Economic Research (NBER)

Pablo Guerrón-Quintana

Federal Reserve Banks - Federal Reserve Bank of Philadelphia

Juan Francisco Rubio-Ramirez

Federal Reserve Bank of Atlanta - Research Department

Multiple version iconThere are 4 versions of this paper

Date Written: April 2010

Abstract

This paper compares the role of stochastic volatility versus changes in monetary policy rules in accounting for the time-varying volatility of U.S. aggregate data. Of special interest to us is understanding the sources of the great moderation of business cycle fluctuations that the U.S. economy experienced between 1984 and 2007. To explore this issue, we build a medium-scale dynamic stochastic general equilibrium (DSGE) model with both stochastic volatility and parameter drifting in the Taylor rule and we estimate it non-linearly using U.S. data and Bayesian methods. Methodologically, we show how to confront such a rich model with the data by exploiting the structure of the high-order approximation to the decision rules that characterize the equilibrium of the economy. Our main empirical findings are: 1) even after controlling for stochastic volatility (and there is a fair amount of it), there is overwhelming evidence of changes in monetary policy during the analyzed period; 2) however, these changes in monetary policy mattered little for the great moderation; 3) most of the great performance of the U.S. economy during the 1990s was a result of good shocks; and 4) the response of monetary policy to inflation under Burns, Miller, and Greenspan was similar, while it was much higher under Volcker.

Suggested Citation

Fernández-Villaverde, Jesús and Guerron-Quintana, Pablo and Rubio-Ramirez, Juan Francisco, Fortune or Virtue: Time-Variant Volatilities Versus Parameter Drifting in U.S. Data (April 2010). NBER Working Paper No. w15928. Available at SSRN: https://ssrn.com/abstract=1594562

Jesús Fernández-Villaverde (Contact Author)

University of Pennsylvania - Department of Economics ( email )

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Pablo Guerron-Quintana

Federal Reserve Banks - Federal Reserve Bank of Philadelphia ( email )

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Juan Francisco Rubio-Ramirez

Federal Reserve Bank of Atlanta - Research Department ( email )

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404-498-8956 (Fax)

HOME PAGE: http://www.econ.umn.edu/~rubio

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