Monetary Magic? How the Fed Improved the Flexibility of the Economy

40 Pages Posted: 28 Dec 2004

See all articles by Tamim Bayoumi

Tamim Bayoumi

International Monetary Fund (IMF); Centre for Economic Policy Research (CEPR)

Silvia Sgherri

International Monetary Fund (IMF)

Date Written: October 2004

Abstract

Extending recent theoretical contributions on sources of inflation inertia, we argue that monetary policy uncertainty helps determine the sluggish adjustment of expectations to nominal disturbances. Estimating a model in which rational individuals learn over time about shifts in US monetary policy and the Phillips curve, we find strong evidence that this link exists. These results question the standard approach for evaluating monetary rules by assuming unchanged private sector responses, help clarify the role of monetary stability in reducing output variability in the US and elsewhere, and tell a subtle and dynamic story of the interaction between monetary policy and the supply-side of the economy.

Keywords: Monetary policy, inflation dynamics, Kalman filter

JEL Classification: C51, E31, E52

Suggested Citation

Bayoumi, Tamim and Sgherri, Silvia, Monetary Magic? How the Fed Improved the Flexibility of the Economy (October 2004). CEPR Discussion Paper No. 4696. Available at SSRN: https://ssrn.com/abstract=639201

Tamim Bayoumi (Contact Author)

International Monetary Fund (IMF) ( email )

700 19th Street NW
Washington, DC 20431
United States
202-623-6333 (Phone)
202-623-4795 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Silvia Sgherri

International Monetary Fund (IMF) ( email )

700 19th Street NW
Washington, DC 20431
United States

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