An Estimated New Keynesian Model for Israel

Eyal Argov () and David Elkayam ()

MPRA Paper from University Library of Munich, Germany

Abstract: We formulate and estimate a small New Keynesian model for the Israeli economy. Our goal is to construct a small but still realistic model that can be used to support the inflation targeting process. The model contains three structural equations: An open economy Phillips curve for CPI inflation (excluding the housing component), an aggregate demand curve for the output gap and an interest parity condition for the nominal exchange rate. The model is closed with an interest rate reaction function (Taylor-type rule) and an ad hoc equation for the housing component of the CPI, which is dominated by exchange rate changes. In the specification of the model we had to pay special attention to the crucial role of the exchange rate in the transmission of monetary policy in Israel, which has a direct effect on almost 60 percent of the CPI. The model is estimated by the GMM method, using quarterly data for the period 1992:I to 2005:IV. In the estimation of the structural equations we tried to remain as close as possible to the theoretical formulation by restricting the dynamics to one lag at most. We use the model to characterize an "optimal" simple interest rate rule. We find that the monetary authority should respond to an hybrid backward-forward looking rate of inflation and does not benefit from direct reaction to exchange rate measures.

JEL-codes: E0 E3 E4 (search for similar items in EconPapers)
Date: 2007-12
New Economics Papers: this item is included in nep-cba and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

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Related works:
Journal Article: An Estimated New Keynesian Model for Israel (2010)
Working Paper: An Estimated New Keynesian Model for Israel (2007)
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:9412

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