International Finance Discussion Papers (IFDP)
January 2015
Monetary Policy, Trend Inflation and the Great Moderation: An Alternative Interpretation - Comment
Jonas E. Arias, Guido Ascari, Nicola Branzoli, and Efrem Castelnuovo
Abstract:
Working with a small-scale calibrated New-Keynesian model, Coibion and Gorodnichenko (2011) find that the reduction in trend inflation during Volcker's mandate was a key factor behind the Great Moderation. We revisit this finding with an estimated New-Keynesian model with trend inflation and no indexation based on Christiano, Eichenbaum and Evans (2005). First, our simulations confirm Coibion and Gorodnichenko's (2011) main finding. Second, we show that a trend inflation-immune Taylor rule based on economic theory can avoid indeterminacy even at high levels of trend inflation such as those observed in the 1970s.
Keywords: Trend inflation, determinacy, and monetary policy.
DOI: http://dx.doi.org/10.17016/IFDP.2015.1127
PDF: Full Paper