[go: up one dir, main page]
IDEAS home Printed from https://ideas.repec.org/p/rim/rimwps/38_09.html
   My bibliography  Save this paper

Real-time Optimal Monetary Policy with Undistinguishable Model Parameters and Shock Processes Uncertainty

Author

Listed:
  • Alessandro Flamini

    (Department of Economics, University of Sheffield, UK)

  • Costas Milas

    (Department of Economics, Keele University, UK; Rimini Centre for Economic Analysis, Rimini, Italy)

Abstract
This paper studies optimal real time monetary policy when the central bank takes the volatility of the output gap and inflation as proxy of the undistinguishable uncertainty on the exogenous disturbances and the parameters of its model. The paper shows that when the uncertainty surrounding a specific state variable increases, the optimal policy response to that variable should increase too while the optimal response to the remaining state variables should attenuate or be unaffected. In this way the central bank moves preemptively to reduce the risk of large deviations of the economy from the steady state that would deteriorate the distribution forecasts. When an empirical test is carried out on the US economy the model predictions tend to be consistent with the data.

Suggested Citation

  • Alessandro Flamini & Costas Milas, 2009. "Real-time Optimal Monetary Policy with Undistinguishable Model Parameters and Shock Processes Uncertainty," Working Paper series 38_09, Rimini Centre for Economic Analysis.
    • Handle: RePEc:rim:rimwps:38_09
    as

    Download full text from publisher

    File URL: http://www.rcea.org/RePEc/pdf/wp38_09.pdf
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Orphanides, Athanasios & van Norden, Simon, 2005. "The Reliability of Inflation Forecasts Based on Output Gap Estimates in Real Time," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 37(3), pages 583-601, June.
    2. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, vol. 50(4), pages 1029-1054, July.
    3. Christopher Adam & David Cobham & University of St. Andrews, 2004. "Real-time output gaps in the estimation of Taylor rules: A red herring?," Economics Series Working Papers 218, University of Oxford, Department of Economics.
    4. Rudd, Jeremy & Whelan, Karl, 2005. "New tests of the new-Keynesian Phillips curve," Journal of Monetary Economics, Elsevier, vol. 52(6), pages 1167-1181, September.
    5. Richard Clarida & Jordi Galí & Mark Gertler, 2000. "Monetary Policy Rules and Macroeconomic Stability: Evidence and Some Theory," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 115(1), pages 147-180.
    6. Athanasios Orphanides & Simon van Norden, 2002. "The Unreliability of Output-Gap Estimates in Real Time," The Review of Economics and Statistics, MIT Press, vol. 84(4), pages 569-583, November.
    7. Ben Martin & Chris Salmon, 1999. "Should uncertain monetary policy-makers do less?," Bank of England working papers 99, Bank of England.
    8. John B. Taylor, 1999. "Introduction to "Monetary Policy Rules"," NBER Chapters, in: Monetary Policy Rules, pages 1-14, National Bureau of Economic Research, Inc.
    9. Albert Marcet & Ramon Marimon, 2019. "Recursive Contracts," Econometrica, Econometric Society, vol. 87(5), pages 1589-1631, September.
    10. Christopher A. Sims, 2002. "The Role of Models and Probabilities in the Monetary Policy Process," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 33(2), pages 1-62.
    11. Arturo Estrella & Frederic S. Mishkin, 1999. "Rethinking the Role of NAIRU in Monetary Policy: Implications of Model Formulation and Uncertainty," NBER Chapters, in: Monetary Policy Rules, pages 405-436, National Bureau of Economic Research, Inc.
    12. Christopher Martin & Costas Milas, 2009. "Uncertainty And Monetary Policy Rules In The United States," Economic Inquiry, Western Economic Association International, vol. 47(2), pages 206-215, April.
    13. Ben S. Bernanke & Julio J. Rotemberg (ed.), 1997. "NBER Macroeconomics Annual 1997," MIT Press Books, The MIT Press, edition 1, volume 1, number 026252242x, April.
    14. John B. Taylor, 1999. "A Historical Analysis of Monetary Policy Rules," NBER Chapters, in: Monetary Policy Rules, pages 319-348, National Bureau of Economic Research, Inc.
    15. Gerberding, Christina & Seitz, Franz & Worms, Andreas, 2005. "How the Bundesbank really conducted monetary policy," The North American Journal of Economics and Finance, Elsevier, vol. 16(3), pages 277-292, December.
    16. Ulf Söderström, 2002. "Monetary Policy with Uncertain Parameters," Scandinavian Journal of Economics, Wiley Blackwell, vol. 104(1), pages 125-145, March.
    17. Gali, Jordi & Gertler, Mark & David Lopez-Salido, J., 2005. "Robustness of the estimates of the hybrid New Keynesian Phillips curve," Journal of Monetary Economics, Elsevier, vol. 52(6), pages 1107-1118, September.
    18. Castelnuovo, Efrem, 2003. "Taylor rules, omitted variables, and interest rate smoothing in the US," Economics Letters, Elsevier, vol. 81(1), pages 55-59, October.
    19. Sack, Brian, 2000. "Does the fed act gradually? A VAR analysis," Journal of Monetary Economics, Elsevier, vol. 46(1), pages 229-256, August.
    20. Jesús Fernández-Villaverde & Juan F. Rubio-Ramírez, 2008. "How Structural Are Structural Parameters?," NBER Chapters, in: NBER Macroeconomics Annual 2007, Volume 22, pages 83-137, National Bureau of Economic Research, Inc.
    21. Cinzia Alcidi & Alessandro Flamini & Andrea Fracasso, 2011. "Policy Regime Changes, Judgment and Taylor rules in the Greenspan Era," Economica, London School of Economics and Political Science, vol. 78(309), pages 89-107, January.
    22. repec:bla:scandj:v:104:y:2002:i:1:p:125-45 is not listed on IDEAS
    23. John B. Taylor, 1999. "Monetary Policy Rules," NBER Books, National Bureau of Economic Research, Inc, number tayl99-1.
    24. Hansen, Lars Peter & Heaton, John & Yaron, Amir, 1996. "Finite-Sample Properties of Some Alternative GMM Estimators," Journal of Business & Economic Statistics, American Statistical Association, vol. 14(3), pages 262-280, July.
    25. Amund Holmsen & Jan F. Qvigstad & Øistein Røisland & Kristin Solberg-Johansen, 2008. "Communicating monetary policy intentions: The case of Norges Bank," Working Paper 2008/20, Norges Bank.
    26. Michael Woodford, 2003. "Optimal Interest-Rate Smoothing," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 70(4), pages 861-886.
    27. Alessandro Flamini, 2003. "CPI Inflation Targeting and Exchange Rate Pass-through," Macroeconomics 0306017, University Library of Munich, Germany.
    28. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
    29. Simon Hall & Chris Salmon & Tony Yates & Nicoletta Batini, 1999. "Uncertainty and Simple Monetary Policy Rules - An illustration for the United Kingdom," Bank of England working papers 96, Bank of England.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Drakos, Anastassios A. & Kouretas, Georgios P., 2015. "The conduct of monetary policy in the Eurozone before and after the financial crisis," Economic Modelling, Elsevier, vol. 48(C), pages 83-92.
    2. Agénor, Pierre-Richard & Flamini, Alessandro, 2022. "Institutional mandates for macroeconomic and financial stability," Journal of Financial Stability, Elsevier, vol. 62(C).
    3. Abayomi T. Onanuga & Sheriffdeen A. Tella & Adenike M. Osoba, 2016. "Uncertainty of Output Gap and Monetary Policy-Making in Nigeria," Acta Universitatis Danubius. OEconomica, Danubius University of Galati, issue 12(5), pages 227-237, OCTOBER.
    4. Alessandro Flamini, 2012. "Interest Rate Forecasts in Inflation Targeting Open-Economies," Economia politica, Società editrice il Mulino, issue 3, pages 381-408.
    5. Flamini Alessandro, 2012. "Economic Stability and the Choice of the Target Inflation Index," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 16(2), pages 1-37, April.
    6. Moccero, Diego & Gnabo, Jean-Yves, 2015. "The risk management approach to monetary policy, nonlinearity and aggressiveness: the case of the US Fed," Working Paper Series 1792, European Central Bank.
    7. Gnabo, Jean-Yves & Moccero, Diego Nicolas, 2015. "Risk management, nonlinearity and aggressiveness in monetary policy: The case of the US Fed," Journal of Banking & Finance, Elsevier, vol. 55(C), pages 281-294.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Marc P. Giannoni, 2007. "Robust optimal monetary policy in a forward-looking model with parameter and shock uncertainty," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 22(1), pages 179-213.
    2. Leith, Campbell & Malley, Jim, 2005. "Estimated general equilibrium models for the evaluation of monetary policy in the US and Europe," European Economic Review, Elsevier, vol. 49(8), pages 2137-2159, November.
    3. Lansing, Kevin J. & Trehan, Bharat, 2003. "Forward-looking behavior and optimal discretionary monetary policy," Economics Letters, Elsevier, vol. 81(2), pages 249-256, November.
    4. Marc Giannoni, 2006. "Robust Optimal Policy in a Forward-Looking Model with Parameter and Shock Uncertainty," NBER Working Papers 11942, National Bureau of Economic Research, Inc.
    5. Wieland, Volker & Wolters, Maik, 2013. "Forecasting and Policy Making," Handbook of Economic Forecasting, in: G. Elliott & C. Granger & A. Timmermann (ed.), Handbook of Economic Forecasting, edition 1, volume 2, chapter 0, pages 239-325, Elsevier.
    6. Walsh, Carl E., 2004. "Implications of a Changing Economic Structure for the Strategy of Monetary Policy," Santa Cruz Department of Economics, Working Paper Series qt84g1q1g6, Department of Economics, UC Santa Cruz.
    7. Glenn D. Rudebusch, 2001. "Is The Fed Too Timid? Monetary Policy In An Uncertain World," The Review of Economics and Statistics, MIT Press, vol. 83(2), pages 203-217, May.
    8. Glenn D. Rudebusch, 2006. "Monetary Policy Inertia: Fact or Fiction?," International Journal of Central Banking, International Journal of Central Banking, vol. 2(4), December.
    9. Orphanides, Athanasios, 2003. "The quest for prosperity without inflation," Journal of Monetary Economics, Elsevier, vol. 50(3), pages 633-663, April.
    10. Kimura, Takeshi & Kurozumi, Takushi, 2007. "Optimal monetary policy in a micro-founded model with parameter uncertainty," Journal of Economic Dynamics and Control, Elsevier, vol. 31(2), pages 399-431, February.
    11. Orphanides, Athanasios, 2004. "Monetary Policy Rules, Macroeconomic Stability, and Inflation: A View from the Trenches," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 36(2), pages 151-175, April.
    12. Linde, Jesper, 2005. "Estimating New-Keynesian Phillips curves: A full information maximum likelihood approach," Journal of Monetary Economics, Elsevier, vol. 52(6), pages 1135-1149, September.
    13. Carl E. Walsh, 2003. "Implications of a changing economic structure for the strategy of monetary policy," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 297-348.
    14. Kimura, Takeshi & Kurozumi, Takushi, 2010. "Endogenous nominal rigidities and monetary policy," Journal of Monetary Economics, Elsevier, vol. 57(8), pages 1038-1048, November.
    15. Giannoni, Marc P., 2002. "Does Model Uncertainty Justify Caution? Robust Optimal Monetary Policy In A Forward-Looking Model," Macroeconomic Dynamics, Cambridge University Press, vol. 6(1), pages 111-144, February.
    16. Dr. Nikolay Markov & Dr. Thomas Nitschka, 2013. "Estimating Taylor Rules for Switzerland: Evidence from 2000 to 2012," Working Papers 2013-08, Swiss National Bank.
    17. Fabio Milani, 2008. "Monetary Policy With A Wider Information Set: A Bayesian Model Averaging Approach," Scottish Journal of Political Economy, Scottish Economic Society, vol. 55(1), pages 1-30, February.
    18. Rodrigo De-Losso, 2012. "Did The Taylor Rule Stabilize Inflation in Brazil?," Working Papers, Department of Economics 2012_21, University of São Paulo (FEA-USP).
    19. Michael Paetz, 2007. "Robust Control and Persistence in the New Keynesian Economy," Quantitative Macroeconomics Working Papers 20711, Hamburg University, Department of Economics.
    20. Rodrigo De-Losso, 2012. "Questioning The Taylor Rule," Working Papers, Department of Economics 2012_22, University of São Paulo (FEA-USP).

    More about this item

    Keywords

    monetary policy; multiplicative uncertainty;

    JEL classification:

    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:rim:rimwps:38_09. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Marco Savioli (email available below). General contact details of provider: https://edirc.repec.org/data/rcfeait.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.