The New Keynesian Phillips Curve and Lagged Inflation: A Case of Spurious Correlation?

28 Pages Posted: 15 Jul 2022

See all articles by G. Hondroyiannis

G. Hondroyiannis

Bank of Greece

P.A.V.B. Swamy

Bureau of Labor Statistics

G. S. Tavlas

Bank of Greece

Date Written: March 1, 2007

Abstract

The New Keynesian Phillips Curve (NKPC) specifies a relationship between inflation and a forcing variable and the current period’s expectation of future inflation. Most empirical estimates of the NKPC, typically based on Generalized Method of Moments (GMM) estimation, have found a significant role for lagged inflation, producing a “hybrid” NKPC. Using U.S. quarterly data, this paper examines whether the role of lagged inflation in the NKPC might be due to the spurious outcome of specification biases. Like previous investigators, we employ GMM estimation and, like those investigators, we find a significant effect for lagged inflation. We also use time varying coefficient (TVC) estimation, a procedure that allows us to directly confront specification biases and spurious relationships. Using three separate measures of expected inflation, we find strong support for the view that, under TVC estimation, the coefficient on expected inflation is near unity and that the role of lagged inflation in the NKPC is spurious.

Keywords: New Keynesian Phillips curve; time-varying coefficients; spurious relationships

JEL Classification: C51; E31

Suggested Citation

Hondroyiannis, G. and Swamy, Paravastu A.V.B. and Tavlas, George, The New Keynesian Phillips Curve and Lagged Inflation: A Case of Spurious Correlation? (March 1, 2007). Bank of Greece Working Paper No. 57, Available at SSRN: https://ssrn.com/abstract=4163858 or http://dx.doi.org/10.2139/ssrn.4163858

G. Hondroyiannis

Bank of Greece ( email )

21 E. Venizelos Avenue
GR-10250 Athens
Greece
+011 301 3202429 (Phone)
+011 301 3233025 (Fax)

Paravastu A.V.B. Swamy

Bureau of Labor Statistics

2 Massachusetts Avenue, NE
Washington, DC 20212
United States

George Tavlas (Contact Author)

Bank of Greece ( email )

21 E. Venizelos Avenue
GR-10250 Athens
Greece
+30 10 323 7224 (Phone)
+30 10 323 3025 (Fax)

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