
Faculty Publications
Document Type
Article
Publication Version
Published Version
Keywords
Monetary policy, Rational expectations, VAR, RE-SVAR, Price puzzle, Money growth rules, Divisia, Inflation expectations, Monetary transmission
Journal/Book/Conference Title
Journal of Economic Dynamics and Control
Volume
170
First Page
1
Last Page
21
Abstract
We propose a novel approach that directly embeds rational expectations (RE) into a low-dimensional structural vector autoregression (SVAR) without the need for any mapping to a dynamic stochastic general equilibrium (DSGE) model. Beginning from a fully specified “consensus” structural model, we establish an instrumental variable procedure internal to the SVAR to obtain RE-consistent structural responses to identified monetary policy shocks. Our RE-SVAR framework facilitates a comparison across two alternative monetary policy indicators that accommodate long horizons in the formation of inflation expectations in the policy rule. We construct clouds of responses of inflation and economic activity to monetary policy shocks. We find large regions of puzzling responses to innovations in the federal funds rate. This suggests that indicator often requires being augmented with more information in standard VAR settings. A money growth rule characterization—with Divisia M4 as a policy indicator—exhibits comparatively larger regions of sensible responses within a low-dimensional textbook model of the economy.
Department
Department of Economics
Original Publication Date
1-2025
Object Description
1 PDF File
DOI of published version
10.1016/j.jedc.2024.104999
Repository
UNI ScholarWorks, Rod Library, University of Northern Iowa
Copyright
©2024 The Author(s). This is an open access article under the CC BY-NC-ND license.
Creative Commons License
This work is licensed under a Creative Commons Attribution-NonCommercial-No Derivative Works 4.0 International License.
Language
en
File Format
application/pdf
Recommended Citation
Chen, Zhengyang, and Victor J. Valcarcel. "Modeling inflation expectations in forward-looking interest rate and money growth rules." Journal of Economic Dynamics and Control 170 (2025): 104999.
Comments
First published in Journal of Economic Dynamics and Control, v170 (Jan 2025) published by Elsevier B.V. DOI: https://doi.org/10.1016/j.jedc.2024.104999