Abstract:
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This paper relaxes the standard I(0) and I(1) assumptions typically stated in the
monetary VAR literature by considering a richer framework that encompasses the
previous two processes as well as other fractionally integrated possibilities. First, a timevarying
multivariate spectrum is estimated for post WWII US data. Then, a structural
fractionally integrated VAR (VARFIMA) is fitted to each of the resulting time
dependent spectra. In this way, both the coefficients of the VAR and the innovation
variances are allowed to evolve freely. The model is employed to analyze inflation
persistence and to evaluate the stance of US monetary policy. Our findings indicate a
strong decline in the innovation variances during the great disinflation, consistent with
the view that the good performance of the economy during the 80’s and 90’s is in part a
tale of good luck. However, we also find evidence of a decline in inflation persistence
together with a stronger monetary response to inflation during the same period. This last
result suggests that the Fed may still play a role in accounting for the observed
differences in the US inflation history. Finally, we conclude that previous evidence
against drifting coefficients could be an artifact of parameter restriction towards the
stationary region.
Keywords: monetary policy, inflation persistence, fractional integration, timevarying
coefficients, VARFIMA.
JEL Classification: E52, C32 |