Evolving Inflation Dynamics, Monetary Policy, and The Fisher Hypothesis

62 Pages Posted: 4 Dec 2003  

Shingo Goto

University of South Carolina - Darla Moore School of Business

Walter N. Torous

Massachusetts Institute of Technology

Date Written: November 2003

Abstract

A regime shift in the inflation process is the collective outcome of shifts in individual agents' rational expectations resulting from an important policy initiative. Taking this view, we find decisive evidence of a shift in the inflation process during the Volcker experiment reflecting the Federal Reserve's enforcement of an anti-inflationary interest rate policy consistent with the Taylor (1993) rule. Subsequent to the regime shift, inflation and real interest rates move together, especially in the long run, contradicting both the Fisher hypothesis and the presence of Mundell-Tobin effects. Contrary to conventional wisdom, today's yield curve is not informative about expected inflation and yields now command a significant inflation risk premium suggesting yet another violation of the Fisher hypothesis.

Suggested Citation

Goto, Shingo and Torous, Walter N., Evolving Inflation Dynamics, Monetary Policy, and The Fisher Hypothesis (November 2003). AFA 2004 San Diego Meetings. Available at SSRN: https://ssrn.com/abstract=467780 or http://dx.doi.org/10.2139/ssrn.467780

Shingo Goto (Contact Author)

University of South Carolina - Darla Moore School of Business ( email )

1705 College St
Francis M. Hipp Building
Columbia, SC 29208
United States
310-463-5203 (Phone)

Walter N. Torous

Massachusetts Institute of Technology ( email )

Center for Real Estate and Sloan School
Cambridge, MA 02138
United States

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