Macroeconomic Volatility Trade-Off and Monetary Policy Regime in the Euro Area

46 Pages Posted: 24 Jan 2003

See all articles by Álvaro Aguiar

Álvaro Aguiar

University of Porto, CEMPRE, Faculdade de Economia

Manuel M. F. Martins

University of Porto, cef.up, Faculdade de Economia

Date Written: November 2002

Abstract

This research uncovers a well-defined monetary policy regime starting in 1986 in the aggregate Euro Area. Both alternative solution-estimation methods employed - optimal control cum GMM, and dynamic programming cum FIML - identify a regime of strict inflation targeting with interest rate smoothing. The unemployment gap, properly estimated as quasi real-time information, is a relevant element in the information set of the monetary authority, despite not being included in its preferences. The emergence of the regime relates to the improvement of the volatility trade-off between inflation and unemployment gap since the mid-80s. Additional improving factors have been milder supply shocks and better ability of policymakers to set the interest rate closer to optimum.

Keywords: Monetary Policy Regime, Euro Area, Optimal Control, Dynamic Programming, GMM, FIML

JEL Classification: E52, E58, C32, C61

Suggested Citation

Aguiar, Álvaro and Mota Freitas Martins, Manuel, Macroeconomic Volatility Trade-Off and Monetary Policy Regime in the Euro Area (November 2002). Available at SSRN: https://ssrn.com/abstract=355700 or http://dx.doi.org/10.2139/ssrn.355700

Álvaro Aguiar

University of Porto, CEMPRE, Faculdade de Economia ( email )

4200-464 Porto
Portugal
+351225571254 (Phone)
+351225505050 (Fax)

Manuel Mota Freitas Martins (Contact Author)

University of Porto, cef.up, Faculdade de Economia ( email )

4200-464 Porto
Portugal

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