How Does Mone a y Policy Change?
E idence on In la ion Ta ge ing
Coun ies
Ja omí Baxa
Roman Ho á h
Bo ek Vasícek
10.07
De
p
a amen d'Economia A
p
licada
Facul a d'Economia i Emp esa
Aques documen pe any al Depa amen d'Economia Aplicada.
Da a de publicació :
Depa amen d'Economia Aplicada
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Se emb e 2010
1
How Does Mone a y Policy Change?
E idence on In la ion Ta ge ing Coun ies
Ja omí Baxa*
Ins i u e o Economic S udies, Cha les Uni e si y, P ague
and Ins i u e o In o ma ion Theo y and Au oma ion, Academy o Sciences o he Czech
Republic, P ague
Roman Ho á h
Czech Na ional Bank
and Ins i u e o Economic S udies, Cha les Uni e si y, P ague
Bořek Vašíček
Uni e si a Au onoma de Ba celona
Abs ac
We examine he e olu ion o mone a y policy ules in a g oup o in la ion a ge ing coun ies
(Aus alia, Canada, New Zealand, Sweden and he Uni ed Kingdom), applying a momen -based
es ima o in a ime- a ying pa ame e model wi h endogenous eg esso s. Using his no el
lexible amewo k, ou main indings a e h ee old. Fi s , mone a y policy ules change g adually,
poin ing o he impo ance o applying a ime- a ying es ima ion amewo k. Second, he in e es
a e smoo hing pa ame e is much lowe han ypically epo ed by p e ious ime-in a ian
es ima es o policy ules. Ex e nal ac o s ma e o all coun ies, al hough he impo ance o he
exchange a e diminishes a e he adop ion o in la ion a ge ing. Thi d, he esponse o in e es
a es o in la ion is pa icula ly s ong du ing pe iods when cen al banke s wan o b eak a eco d
o high in la ion, such as in he UK o Aus alia a he beginning o he 1980s. Con a y o
common wisdom, he esponse becomes less agg essi e a e he adop ion o in la ion a ge ing,
sugges ing a posi i e ancho ing e ec o his egime on in la ion expec a ions. This esul is
suppo ed by ou inding ha in la ion pe sis ence as well as he policy neu al a e ypically
dec eased a e he adop ion o in la ion a ge ing.
JEL Classi ica ion: E43, E52, E58.
Keywo ds: Taylo ule, in la ion a ge ing, mone a y policy, ime- a ying pa ame e model,
endogenous eg esso s.
* We hank Aleš Bulíř,
Pe e Claeys,
Øy ind Ei heim, Michal F an a, Dana Hájko á, Gab iel
Pe ez-Qui os, Ekkeha Schlich , Pie e Siklos, Milosla Voš da and he semina pa icipan s a
he 7
h
No ges Annual Mone a y Policy Con e ence, he Czech Na ional Bank, he Ins i u e o
In o ma ion Theo y and Au oma ion (Academy o Sciences o he Czech Republic), he
Uni e si a Au onoma de Ba celona and he XXXIV h Symposium o he Spanish Economic
Associa ion o help ul discussions. The iews exp essed in his pape a e no necessa ily hose o
he Czech Na ional Bank. Suppo om he Czech Science Founda ion unde g an
402/09/H045 and suppo om he G an Agency o Cha les Uni e si y (GAUK) unde p ojec
46108 a e g a e ully acknowledged. Emails: [email p o ec ed],
[email p o ec ed], [email p o ec ed].
2
1 In oduc ion
Taylo - ype eg essions ha e been applied ex ensi ely in o de o desc ibe mone a y policy se ing
o many coun ies. The esea ch on U.S. mone a y policy usually assumes ha mone a y policy
was subjec o s uc u al b eaks when he Fed chai man changed. Cla ida e al. (2000) claims ha
he U.S. in la ion du ing he 1970s was unleashed because he Fed’s in e es a e esponse o he
in la ion upsu ge was oo weak, while he inc ease o such esponse in he 1980s was behind he
in la ion mode a ion. Al hough he e is ongoing discussion on he sou ces o his G ea
Mode a ion (Bena i and Su ico, 2009), i is gene ally accep ed ha mone a y policy se ing
e ol es o e ime.
The e olu ion o mone a y policy se ing as well as exogenous changes in he economic sys em
o e ime aises se e al issues o empi ical analysis. In pa icula , he coe icien s o mone a y
policy ules es ima ed o e longe pe iods a e s uc u ally uns able. The solu ion used in he
li e a u e is ypically sub-sample analysis (Cla ida e al., 1998, 2000). Such an app oach is based on
he a he s ong assump ion ha he iming o s uc u al b eaks is known, bu also ha policy
se ing does no e ol e wi hin each sub-pe iod. Consequen ly, his gi es impe us o applying an
empi ical amewo k ha allows o egime changes o , in o he wo ds, ime a iance in he
model pa ame e s (Cogley and Sa gen , 2001, 2005). Coun ies ha ha e implemen ed he
in la ion a ge ing (IT) egime a e especially sui able o such analysis because i is likely ha he
mone a y policy s ance wi h espec o in la ion and o he mac oeconomic a iables changed as a
consequence o he implemen a ion o IT. Mo eo e , he e is ongoing deba e o o wha ex en
IT ep esen s a ule-based policy. Be nanke e al. (1999) claim ha IT is a amewo k o
cons ained disc e ion a he han a mechanical ule. Consequen ly, he mone a y policy ule o
an IT cen al bank is likely o be ime a ying.
Ou s udy aims o in es iga e he e olu ion o mone a y policy o coun ies ha ha e long
expe ience wi h he IT egime. In pa icula , we analyze he ime- a ying mone a y policy ules
o Aus alia, Canada, New Zealand, Sweden and he Uni ed Kingdom. As we a e in e es ed in
mone a y policy e olu ion o e a ela i ely long pe iod, we do no conside coun ies whe e IT
has been in place o a ela i ely sho ime (Finland, Spain), o was in oduced ela i ely ecen ly
(such as A menia, he Czech Republic, Hunga y, Ko ea, No way and Sou h A ica). We apply he
ecen ly de eloped ime- a ying pa ame e model wi h endogenous eg esso s (Kim and Nelson,
2006), as his echnique allows us o e alua e changes in policy ules o e ime, and, unlike
Ma ko -swi ching me hods, does no impose sudden policy swi ches be ween di e en egimes.
3
On op o ha , i also deals wi h endogenei y o policy ules. Unlike Kim and Nelson (2006) we
do no ely on he Kalman il e , which is con en ionally employed o es ima e ime- a ying
models, bu employ he momen -based es ima o p oposed by Schlich and Luds eck (2006)
1
o
i s ma hema ical and desc ip i e anspa ency and minimal equi emen s as ega ds ini ial
condi ions. In addi ion, Kim and Nelson (2006) apply hei es ima o o e alua e changes in U.S.
mone a y policy, while we ocus on in la ion a ge ing economies.
An icipa ing ou esul s, we ind ha mone a y policy changes g adually, poin ing o he
impo ance o applying a ime- a ying es ima ion amewo k (see also Koop e al., 2009, on
e idence ha mone a y policy changes g adually a he han ab up ly). When he issue o
endogenei y in ime- a ying mone a y policy ules is neglec ed, he pa ame e s a e es ima ed
inconsis en ly, e en hough he esul ing e o s a e economically no la ge. Second, he in e es
a e smoo hing pa ame e is much lowe han ypically epo ed by p e ious ime-in a ian
es ima es o policy ules. This is in line wi h a ecen c i ique by Rudebusch (2006), who
emphasizes ha he deg ee o smoo hing is a he low. Ex e nal ac o s ma e o unde s anding
he in e es a e se ing p ocess o all coun ies, al hough he impo ance o he exchange a e
diminishes a e he adop ion o in la ion a ge ing. Thi d, he esponse o in e es a es o
in la ion is pa icula ly s ong du ing pe iods when cen al banke s wan o b eak a eco d o high
in la ion, such as in he UK a he beginning o he 1980s. Con a y o common wisdom, he
esponse can become less agg essi e a e he adop ion o in la ion a ge ing, sugges ing a
posi i e ancho ing e ec o his egime on in la ion expec a ions o a low in la ion en i onmen .
This esul is consis en wi h Ku ne and Posen (1999) and Sekine and Te anishi (2008), who
show ha in la ion a ge ing can be associa ed wi h a smalle esponse o he in e es a e o
in la ion de elopmen s i he p e ious in la ion eco d was a o able.
The pape is o ganized as ollows. Sec ion 2 discusses he ela ed li e a u e. Sec ion 3 desc ibes
ou da a and empi ical me hodology. Sec ion 4 p esen s he esul s. Sec ion 5 concludes. An
appendix wi h a de ailed desc ip ion o he me hodology and addi ional esul s ollows.
1 The desc ip ion o his es ima o is also a ailable in Schlich (2005), bu we e e o he mo e ecen wo king pape
e sion, whe e his es ima o is desc ibed in a g ea de ail. Se e al impo an pa s o his amewo k we e in oduced
al eady in Schlich (1981).

4
2 Rela ed Li e a u e
2.1 Mone a y policy ules and in la ion a ge ing
Al hough he heo e ical li e a u e on op imal mone a y policy usually dis inguishes be ween
ins umen ules ( he Taylo ule) and a ge ing ules ( he in la ion- a ge ing based ule), he
o wa d-looking speci ica ion o he Taylo ule, some imes augmen ed wi h o he a iables, has
commonly been used o he analysis o decision making o IT cen al banks. The exis ing s udies
ea u e g ea di e si y o empi ical amewo ks, which makes he compa ison o hei esul s
some imes complica ed. In he ollowing we p o ide a selec i e su ey o empi ical s udies aimed
a he coun ies ha we ocus on.
The Uni ed Kingdom adop ed IT in 1992 (cu en ly a 2% a ge and a ±1% ole ance band) and
he policy o he Bank o England (BoE) is subjec o he mos ex ensi e empi ical esea ch.
Cla ida e al. (1998) analyzed he mone a y policy se ing o he BoE in he p e-IT pe iod,
concluding ha i was consis en wi h he Taylo ule, ye addi ionally cons ained by o eign
(Ge man) in e es a e se ing. Adam e al. (2005) ind by means o sub-sample analysis ha he
in oduc ion o IT did no ep esen a majo change in mone a y policy conduc , unlike he
g an ing o ins umen independence in 1997. Da adakis and Taylo (2006) poin o signi ican
asymme y o B i ish mone a y policy du ing he IT pe iod; in pa icula he BoE was conce ned
wi h in la ion only when i signi ican ly exceeded i s a ge . Assenmache -Wesche (2006)
concludes by means o a Ma ko -swi ching model ha no a en ion was paid o in la ion un il IT
was adop ed. Con e sely, Kisho (2008) inds ha he esponse o in la ion had al eady inc eased,
especially a e Ma ga e Tha che became p ime minis e (in 1979). Finally, T ec oci and Vassalli
(2009) use a model wi h ime- a ying coe icien s and conclude ha policy had been ge ing
g adually mo e in la ion a e se since
he ea ly 1980s.
New Zealand was he i s coun y o adop IT (in 1990). A pa icula ea u e besides he
announcemen o he in la ion a ge (cu en ly a band o 1–3%) is ha he go e no o he
Rese e Bank (RBNZ) has an explici ag eemen wi h he go e nmen . Huang e al. (2001) s udy
he mone a y policy ule o e he i s decade o IT. He inds ha he policy o he RBNZ was
clea ly aimed a he in la ion a ge and did no espond o ou pu luc ua ions explici ly. The
esponse o in la ion was symme ic and a backwa d-looking ule does as good a job as a
o wa d-looking one a acking he in e es a e dynamics. Plan ie and Sc imgeou (2002) allow
o he possibili y ha he neu al eal in e es a e (implici ly assumed in he Taylo ule o be
cons an ) changes in ime. In his amewo k hey ind ha he esponse o in la ion inc eased
5
a e IT was implemen ed and he policy neu al in e es a e ailed away. F i i (2008) addi ionally
con i ms ha he RBNZ did no explici ly espond o exchange a e luc ua ions and Ka edekikli
and Lees (2007) dis ega d asymme ies in he RBNZ policy ule.
The Rese e Bank o Aus alia (RBA) u ned o IT in 1993 (wi h a a ge o 2–3%) a e decades
o exchange a e pegs ( ill 1984) and consecu i e mone a y a ge ing.
2
De B ouwe and Gilbe
(2005) using sub-sample analysis con i m ha he RBA’s conside a ion o in la ion was e y low
in he p e-IT pe iod and a conce n o ou pu s abiliza ion was clea ly p edominan . The
esponse o in la ion (bo h ac ual and expec ed) inc eased subs an ially a e IT adop ion bu he
RBA seemed o conside exchange a e and o eign in e es a e de elopmen s as well. Leu and
Sheen (2006) ind a lo o disc e ionali y in he RBA’s policy (a low i o he ime-in a ian ule)
in he p e-IT pe iod, a consis en esponse o in la ion du ing IT, and signs o asymme y in bo h
pe iods. Ka edekikli and Lees (2007) documen ha he policy asymme y is ela ed o he RBA’s
dis as e o nega i e ou pu gaps.
The Bank o Canada (BoC) in oduced IT in 1991 in he o m o a se ies o a ge s o educing
in la ion o he midpoin o he ange o 1–3% by he end o 1995 (since hen he a ge has
emained unchanged). Deme s and Rod íguez (2002) ind ha he implemen a ion o his
amewo k was dis inguished by a highe in la ion esponse, bu he inc ease in he esponse o
eal economic ac i i y was e en mo e signi ican . Shih and Giles (2009) model he du a ion
analysis o BoC in e es a e changes wi h espec o di e en mac oeconomic a iables. They
ind ha annual co e in la ion and he mon hly g ow h a e o eal GDP d i e he changes o he
policy a e, while he unemploymen a e and he exchange a e do no . On he con a y, Dong
(2008) con i ms ha he BoC conside s eal exchange a e mo emen s.
Sweden adop ed IT in 1993 (a 2% a ge wi h a ole ance band o 1 pe cen age poin ) jus a e
he k ona had been allowed o loa . The independence o S e iges Riksbank (SR) was legally
inc eased in 1999. Jansson and V edin (2003) s udied i s policy ule, concluding ha he in la ion
o ecas (published by he Riksbank) is he only ele an a iable d i ing in e es a e changes.
Ku ne (2004) addi ionally inds a ole o he ou pu gap, bu in e ms o i s g ow h o ecas
( a he han i s obse ed alue). Be g e al. (2004) p o ide a igo ous analysis o he sou ces o
de ia ions be ween he SR policy a e and he a ge s implied by di e se empi ical ules. They
2 In Aus alia, he adop ion o in la ion a ge ing was a g adual p ocess. As om Janua y 1990, he RBA inc eased
he equency o i s communica ions ia speeches and he s yle o he Bank’s Bulle in s a ed o co espond o he
in la ion epo s as in oduced in New Zealand. The exac in la ion a ge was de ined explici ly la e , in Ap il 1993.
G een ille (1997) desc ibes he policy changes in Aus alia in g ea de ail.
6
claim ha highe in la ion o ecas s a he ea ly s ages o he IT egime (due o a lack o
c edibili y) gene a e a highe implied a ge om he o wa d-looking ule and he e o e induce
spu ious indica ions o policy shocks. Thei quali a i e analysis o SR documen s cla i ies he
a ionale behind ac ual policy shocks, such as mo e g adualism (s onge ine ia) in pe iods o
mac oeconomic unce ain y.
Finally, he e a e a ew mul i-coun y s udies. Mei elles Au elio (2005) analyzes he ime-in a ian
ules o he same coun ies as us, inding signi ican dependence o he esul s on eal- ime e sus
his o ical measu es o a iables. Lubik and Scho heide (2007) es ima e by Bayesian me hods an
open economy s uc u al model o ou IT coun ies (AUS, CAN, NZ, UK) wi h he aim o
seeing whe he IT cen al banks espond o exchange a e mo emen s. They con i m his claim
o he BoE and BoC. Dong (2008) en iches hei se ing by inco po a ing some mo e ealis ic
assump ions (exchange a e endogenei y, incomple e exchange- a e pass- h ough), inding
addi ionally a esponse o he exchange a e o he RBA.
2.2 Time a iance in mone a y policy ules
The o iginal empi ical esea ch on mone a y policy ules used a linea speci ica ion wi h ime-
in a ian coe icien s. Ins umen a iable es ima o s such as he GMM gained popula i y in his
con ex , because hey a e able o deal wi h he issue o endogenei y ha a ises in he o wa d-
looking speci ica ion (Cla ida e al., 1998).
3
While a ime-in a ian policy ule may be a easonable
app oxima ion when he analyzed pe iod is sho , s uc u al s abili y usually ails o e longe
pe iods.
The simples empi ical s a egy o aking ime a iance in o accoun is o use sub-sample analysis
(Taylo , 1999; Cla ida e al., 2000). The d awback o his app oach is i s a he subjec i e
assump ions abou poin s o s uc u al change and s uc u al s abili y wi hin each sub-pe iod. An
al e na i e is o apply an econome ic model ha allows ime a iance o he coe icien s. The e
a e a ious me hods dealing wi h ime a iance in he con ex o es ima ed mone a y policy ules.
The mos common op ion is he Ma ko -swi ching VAR me hod, o iginally used o business
cycle analysis. Valen e (2003) employs such a model wi h swi ches in he cons an e m
3 One excep ion is when a esea che uses eal- ime cen al bank o ecas s o Taylo - ype ule es ima ion, i.e. he
da a a ailable o he cen al bank be o e he mone a y policy mee ing. In such case, he endogenei y p oblem will no
a ise and leas squa es es ima ion may pe o m well (O phanides, 2001). Howe e , as we will discuss in mo e de ail
below, he use o eal- ime da a may no sol e he issue o endogenei y comple ely.
7
ep esen ing he e olu ion o he in la ion a ge ( he in la ion a ge oge he wi h he eal
equilib ium in e es a e makes he cons an e m in a simple Taylo ule). Assenmache -Wesche
(2006) uses he Ma ko -swi ching model wi h shi s bo h in he coe icien s and in he esidual
a iances. Such sepa a ion be ween he e olu ion o policy p e e ences (coe icien s) and
exogenous changes in he economic sys em ( esiduals) is impo an o he con inuing discussion
on he sou ces o he G ea Mode a ion (Bena i and Su ico, 2008; Cano a and Gambe i, 2008).
Sims and Zha (2006) p esen a mul i a ia e model wi h disc e e b eaks in bo h coe icien s and
dis u bances. Unlike Assenmache -Wesche hey ind ha he a iance o he shock a he han
he ime a iance o he mone a y policy ule coe icien has shaped mac oeconomic
de elopmen s in he U.S. in he las ou decades.
The applica ion o Ma ko -swi ching VAR echniques u ns ou o be complica ed o IT
coun ies, whe e he policy ules a e usually cha ac e ized as o wa d-looking and some eg esso s
become endogenous. The endogenei y bias can be a oided by means o a backwa d-looking
speci ica ion (lagged explana o y a iables), bu his is e y p obably inapp op ia e o IT cen al
banks, which a e a guably o wa d-looking.
4
Howe e , he e is ano he dis inc ea u e o he
Ma ko -swi ching model ha makes i s use o he analysis o ime a iance in he mone a y
policy ule a he ques ionable. The model assumes sudden swi ches om one policy egime o
ano he a he han a g adual e olu ion o mone a y policy. Al hough a i s sigh one may
conside he in oduc ion o IT o be an ab up change, he e a e some easons o belie e ha a
smoo h mone a y policy ansi ion is a mo e app op ia e desc ip ion o IT coun ies (Koop e
al., 2009). Fi s ly, he IT egime is ypically based on p edic abili y and anspa ency, which does
no seem o be consis en wi h sudden swi ches. Secondly, i is likely ha in la ion played a ole in
in e es a e se ing e en be o e he IT egime was in oduced, because in many coun ies a majo
dec ease o in la ion a es occu ed be o e IT was implemen ed. Thi dly, he coe icien s o
di e en a iables (such as in la ion, he ou pu gap o he exchange a e) in he mone a y policy
ule may e ol e independen ly a he han mo ing om one egime o ano he a he same ime
(see also Da as, 2009). Fo ins ance, a cen al bank may assign mo e weigh o he obse ed o
expec ed in la ion a e when i implemen s IT, bu ha does no mean ha i immedia ely
dis ega ds in o ma ion on eal economic ac i i y o o eign in e es a es. Finally, he e is ele an
e idence, hough mos ly o he U.S., ha mone a y policy e ol es a he smoo hly o e ime
(Boi in, 2006; Cano a and Gambe i, 2008; Koop e al., 2009). The e o e, based on his esea ch,
a smoo h ansi ion seems o be a mo e app op ia e desc ip ion o eali y. In a simila manne , i
4 Psa adakis e al. (2006) p oposed a solu ion o he endogenei y p oblem in he con ex o he Ma ko -swi ching
model in he case o he e m s uc u e o in e es a es.
14
ha he Kalman il e is ini ialized wi h he co ec ini ial condi ions. Ye in his case, he VC
es ima o has a sligh ly lowe mean squa ed e o and his di e ence is mo e p onounced o
small samples.
17
We assume ha he a iance o he dis u bance e m in Eq. (12) is no ime- a ying.
Ne e heless, he e is an ongoing discussion abou o wha ex en changes in he mac oeconomic
en i onmen a e d i en by changes in he a iance o he dis u bance e m (i.e. exogenous
changes in he economic sys em) is-à- is he a iance in he coe icien s o he mone a y policy
ule (see, o example, Bena i and Su ico, 2008, Cano a and Gambe i, 2008, o Sims and Zha,
2006).
One can also hink abou Eqs. (4), (10) and (11) in e ms o he New Keynesian model, wi h Eqs.
(10) and (11) ep esen ing he Phillips and IS cu es. I should be no ed ha ou amewo k is in
gene al less es ic i e and imposes less s uc u e han he ull-blown New Keynesian model.
We expec
β
o be posi i e, as he cen al bank is likely o eac o an inc ease in expec ed
in la ion by inc easing i s policy a e. In pa icula ,
β
should be g ea e han one in he long- un
solu ion o Eq. (4) i mone a y policy is s abilizing. The de elopmen o
β
o e ime may be
d i en by a numbe o ac o s, such as changes in mone a y policy egime o ins i u ional
cons ain s (Adam e al., 2005). The e ec o he adop ion o in la ion a ge ing on
β
is
ambiguous. As pu o wa d by Ku ne and Posen (1999),
β
can bo h inc ease and dec ease.
They show ha unde a conse a i e cen al bank he esponse o sho - e m in e es a es is
g ea e han unde disc e ion o he op imal s a e-con ingen ule (in la ion a ge ing),
18
while he
s eng h o he esponse unde in la ion a ge ing as compa ed o disc e ion depends on he
c edibili y o he egime. C edible mone a y policy does no ha e o eac so s ongly o in la ion
su p ises, as in la ion expec a ions a e likely o emain ancho ed. Sekine and Te anishi (2008)
p o ide a new Keynesian model ha eaches o he same conclusions. Siklos and Weyma k
17 Fo compa ison, we es ima ed equa ion (12) using he con en ional Kalman il e in he GROCER so wa e using
he unc ion p (Dubois-Michaux, 2009). We pa ame e ized he model wi h ini ial condi ions aken om he OLS
es ima es o he pa ame e s on he ull sample and he ini ial o ecas e o co a iance ma ix se o 0. The ma ix o
he esiduals o he ime- a ying coe icien s is assumed o be diagonal as in he VC me hod. The esul s we e e y
simila o hose ob ained om he VC me hod, wi h he es ima ed a iances being he same in bo h me hods. The
only coun y whe e he es ima ed a iance was di e en , was Sweden, wi h a lowe a iance in smoo hing pa ame e
ρ and highe a a iance in β. S ill, he esul s we e consis en wi h ou s. These esul s a e a ailable upon eques .
18 See King (1997) on how in la ion a ge ing allows one o come close o he op imal s a e-con ingen ule.

15
(2009) es ima e ha in la ion a ge ing in Aus alia, Canada and New Zealand educed he
magni ude o he in e es a e changes o needed o main ain a low in la ion en i onmen .
Simila ly,
ρ
, a measu e o in e es a e smoo hing, is expec ed o be posi i e wi h alues be ween
ze o and one. Many ime-in a ian es ima es o mone a y policy ules ind he alue o his
pa ame e o be abou 0.7–0.9, implying a subs an ial deg ee o in e es a e smoo hing.
Rudebusch (2006) claims ha such igu es a e clea ly o e es ima ed in he ace o e y low
in e es a e o ecas abili y in he e m s uc u e o in e es a es. On he con a y, he ime-
a ying model in p inciple enables some a iables o a ec in e es a e se ing in one pe iod bu
no in ano he , and is less p one o au oco ela ed shocks.
Nex , he e ec o he ou pu gap,
γ
, on in e es a es is expec ed o be posi i e o insigni ican .
In he i s case, he cen al bank may ha e an explici conce n o eal ac i i y o unde s and he
ou pu gap as a use ul p edic o o u u e in la ion. In he la e case, he insigni ican coe icien
may sugges ha he cen al bank is p ima ily ocused on in la ion and does no conside he
ou pu gap o be impo an in deli e ing low in la ion.
The e is a deba e in li e a u e abou whe he o he a iables should be included in he mone a y
policy ule. This is especially appealing o small open economies, which may be conce ned wi h
exchange a e luc ua ions as well as he e olu ion o o eign in e es a es. Taylo (2001) pu s
o wa d ha e en i he exchange a e o o eign in e es a es a e no explici ly included in he
policy ule, hey s ill emain p esen implici ly, as he exchange a e in luences he in la ion
o ecas , o which he in la ion- a ge ing cen al bank is likely o eac . I is also wo h
emphasizing ha signi icance o he exchange a e o o eign in e es a es does no necessa ily
mean ha he cen al bank a ge s some pa icula alues o hese a iables, bu a he ha he
bank conside s o eign de elopmen s o be impo an o i s in la ion o ecas . On he o he
hand, empi ical s udies o en a o he inclusion o hese a iables in he es ima ed policy ule.
Ha ing hese conside a ions in mind, we decided o include he exchange a e and o eign
in e es a es, oo, in o de o assess whe he hese wo a iables ca y any addi ional in o ma ion
o unde s anding he in e es a e se ing p ocess in ou sample coun ies.
3.2 The da ase
We use qua e ly da a. The sample pe iod a ies om coun y o coun y owing o da a
a ailabili y ( he UK 1975:1Q–2007:4Q, Aus alia 1975:1Q–2007:4Q, Canada 1975:1Q–2007:4Q,
16
New Zealand 1985:1Q–2007:3Q, Sweden 1982:2Q–2007:3Q), bu on a e age he ime co e age
is abou h ee decades.
Following Cla ida, Galí and Ge le (1998), he dependen a iable is he sho - e m in e es a e,
which is ypically closely linked o he mone a y policy a e. The eason o choosing he sho -
e m in e es a e a he han he mone a y policy a e is he ac ha he mone a y policy a e
and he change he ein a e censo ed (Podpie a, 2008). The e o e, he dependen a iables
cap u ing he policy a e a e he discoun a e (3-mon h T easu y bills) o he UK, he in e bank
3-mon h in e es a e o Aus alia, he 3-mon h T easu y bills a e o Canada, he o e nigh
in e bank 90-day in e es a e o NZ and he in e bank 3-mon h in e es a e o Sweden. We
choose he in e es a e so as o be closely linked o mone a y policy, bu also o be a ailable o a
su icien ly long pe iod. The o eign in e es a e is he Ge man 3-mon h Eu ibo o he UK and
Sweden and he U.S. 3-mon h in e bank in e es a e o Aus alia, NZ, and Canada.
The in la ion is measu ed as he yea -on-yea change in he CPI, excep o he UK, whe e we use
he RPIX ( he e ail p ice index excluding mo gage in e es paymen s), and he NZ, whe e we
use he CPIX ( he CPI wi hou in e es paymen s).
19
The ou pu gap is aken as epo ed in he OECD Economic Ou look ( he p oduc ion unc ion
me hod based on he NAWRU – he non-accele a ing wages a e o unemploymen ), excep o
NZ, whe e his se ies is sho and whe e we use he ou pu gap de i ed om he Hod ick-
P esco il e applied o he GDP se ies (cons an p ices, seasonally adjus ed).
20
The exchange
a e is measu ed by he chain-linked nominal e ec i e exchange a e (NEER), excep o Canada,
whe e we use he bila e al USD/CAD exchange a e. Fo he eg essions we use he de ia ion o
he index om he HP end ( i s di e ences we e used o a obus ness check) – see also Lubik
and Scho heide (2007).
19 We use yea -on-yea da a, as he in la ion a ge is also de ined on a yea -on-yea basis.
20 The e is no ag eemen on wha is he bes me hod o ex ac ion o he unobse ed ou pu gap (Billmeie , 2009).
We p e e o use he ou pu gaps ob ained by he OECD by means o
he p oduc ion unc ion app oach because
hey a e based on a subs an ially iche in o ma ion se han simple s a is ical de ending. Somewha su p isingly, he
OECD ou pu gap and he simple HP gap e ol e e y closely.
17
4 Resul s
This sec ion p esen s he coun y-speci ic es ima es o he ime- a ying mone a y policy ules in
sub-sec ions 4.1–4.5. Sub-sec ion 4.6 con ains he es ima es o ime- a ying in la ion pe sis ence
and sub-sec ion 4.7 p o ides a summa y o he main policy- ele an indings.
4.1 Uni ed Kingdom
Ou esul s show ha he BoE signi ican ly inc eased i s esponse o in la ion om he la e 1970s
ill he mid-1980s. This o e laps wi h he Tha che go e nmen and i s majo p io i y o in la ion
con ol. The o e all decline o he esponse since 1985 can be ela ed o he dismissal o he
medium- e m inancial s a egy (adop ed in 1979). We ind ha he esponse o in e es a es o
in la ion was g adually dec easing du ing he 1990s in spi e o he in oduc ion o IT. Al hough
his inding may seem a i s sigh coun e in ui i e, i is impo an o keep in mind ha , unlike in
some eme ging coun ies, IT was no implemen ed in he UK as a s ong an i-in la ion s a egy.
In la ion had al eady been con ained in he 1980s and he e y benign in la ion en i onmen was
also suppo ed by declining p ices o aw ma e ials on wo ld ma ke s. This co obo a es wi h he
indings o Ku ne and Posen (1999) and Sekine and Te anishi (2008), who show ha in la ion
a ge ing can be associa ed wi h less agg essi e mone a y policy.
The e ec o he ou pu gap is es ima ed as posi i e (al hough he con idence in e als a e a he
la ge, p obably e lec ing he ac ha he gap is an unobse ed a iable and calcula ed ex pos )
and does no a y subs an ially o e ime. The in e es a e smoo hing pa ame e is ound o ha e
alues be ween 0.1 and 0.3, which is much lowe han ypically epo ed by ime-in a ian
es ima es o mone a y policy ules (Cla ida e al., 1998, 2000). Ou es ima es seem o be
easonable in he ace o he ecen c i ique by Rudebusch (2006). Finally, in his basic model he
in e cep can be in e p e ed as he policy neu al (nominal) in e es a e. We can see ha i has
s eadily declined o e ime, which is consis en wi h he low in la ion en i onmen ha p e ailed
in he UK in he 1990s.
18
Figu e 1 – Time- a ying esponse coe icien s in baseline (closed economy) policy ule,
UK
-.4
-.2
.0
.2
.4
.6
.8
1980 1985 1990 1995 2000 2005
RHO_UB RHO_LB RHO
No e: 95% con idence bands; model wi h bias co ec ion e ms, i.e. dealing wi h endogenei y in mone a y policy
ules. The uppe -le g aph depic s he e olu ion o he neu al a e. The uppe - igh g aph depic s he e olu ion o
he esponse o in e es a es o in la ion. The lowe -le g aph depic s he e olu ion o he esponse o in e es a es
o he ou pu gap. The lowe - igh g aph depic s he e olu ion o he in e es a e smoo hing pa ame e .
The esul s o ou augmen ed model show ha he mone a y policy o he BoE was in luenced
by ex e nal ac o s, al hough hei impo ance was g ea e in he 1980s han ecen ly.
21
In
pa icula , we ind e idence ha he BoE dec eased i s policy a e as he nominal e ec i e
exchange a e (NEER) s eng hened du ing he 1980s e en be o e he pound o icially joined he
ERM (1990). Ye , once he UK abandoned he ERM and in oduced IT, he BoE no longe
seemed o eac explici ly o he exchange a e. Ob iously, i conside ed he exchange a e
indi ec ly, as exchange a e luc ua ions in luence he in la ion o ecas ( o mo e on his see
Taylo , 2001). The same easoning applies o he esponse o he o eign in e es a e (Eu ibo ).
21 In wha ollows, we p esen he e olu ion o he coe icien s o he esponse o he exchange a e and o eign
in e es a es; he o he coe icien s emain la gely unchanged and a e no epo ed o he sake o b e i y.
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1980 1985 1990 1995 2000 2005
GAMMA GAMMA_UB GAMA_LB
-1.5
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
1980 1985 1990 1995 2000 2005
BETA BETA_LB BETA_UB
0
2
4
6
8
10
12
1980 1985 1990 1995 2000 2005
ALPHA ALPHA_LB ALPHA_UB
19
I was pa icula ly s ong du ing he 1980s and subsequen ly i s impo ance somewha declined.
Ou esul s show li le suppo o he hypo hesis ha he mone a y policy o he BoE ollows
ha o he ECB, as he es ima ed esponse o he coe icien declined and he con idence
in e als widened a e he launch o he eu o.
Figu e 2 – Time- a ying esponse coe icien s in augmen ed (open economy) policy ule,
UK
No e: 95% con idence bands; model wi h bias co ec ion e ms, i.e. dealing wi h endogenei y in mone a y policy
ules. The le -hand g aph depic s he e olu ion o he esponse o in e es a e o he nominal e ec i e exchange
a e ( he de ia ion om he HP end). The igh -hand g aph depic s he e olu ion o he esponse o he in e es
a e o he o eign in e es a e.
The e a e wo s udies di ec ly compa able wi h his pape . Kisho (2008) ob ains esul s simila o
ou s in spi e o using mon hly da a known o ha e sligh ly di e en dynamics. He inds ha he
an i-in la ion s ance peaked in he mid-1980s and ended o decline om hen onwa ds in spi e o
he adop ion o IT. Simila ly, his inding ha he esponse o he o eign in e es a e signi ican ly
declined a e he ERM c isis is complemen a y o ou esul ha he BoE ga e much less
conside a ion o he e olu ion o he exchange a e ( he NEER gap).
T ec oci and Vassalli (2010), who, unlike Kisho (2008) and his pape , do no co ec o
endogenei y in he ime- a ying model, come o he opposi e conclusion ha he BoE’s esponse
o in la ion inc eased o e ime. Ye , some coun e in ui i e esul s o hei s udy poin o he
possibili y o endogenei y bias. Fi s , he in e es a e smoo hing pa ame e akes on signi ican ly
nega i e alues om 1980 ill 1995. This would imply no only ha policy was no ine ial, bu
also ha he e was ac ually a nega i e co ela ion be ween he p esen and pas in e es a e,
which is inconsis en e en in he ace o a simple isual inspec ion o he in e es a e se ies.
-0.4
0.0
0.4
0.8
1.2
1.6
2.0
1980 1985 1990 1995 2000 2005
UBDELTA LBDELTA DELTA
-.5
-.4
-.3
-.2
-.1
.0
.1
.2
.3
1980 1985 1990 1995 2000 2005
LB_NEER UB_NEER A_NEER

20
When we es ima e ou model wi hou he endogenei y-co ec ing coe icien s we ob ain a simila
esul (see Appendix, Figu e A.1).
22
Second, hei coe icien o he o eign (Ge man) in e es
a e peaks in 1990 and is de ac o in a ian since hen, which he au ho s in e p e as implici
exchange- a e a ge ing. This inding is doub ul gi en he pound’s exi om he ERM and he
implemen a ion o IT om 1992 onwa ds. In ac , B i ish and Ge man sho - e m a es, which
we e almos a pa in 1992, di e ged and he in e bank in e es a e in he UK exceeded he
Ge man one by almos 4% on he e e o eu o adop ion.
4.2 New Zealand
New Zealand was he i s coun y in he wo ld o in oduce in la ion a ge ing, doing so by
means o he Fede al Bank Ac signed in Ma ch 1990.
23
Ou esul s indica e ha he esponse o
he RBNZ o expec ed in la ion was e y close o uni y h oughou he sample pe iod (1985–
2007). In ac , i is clea ly isible ha he in e es a e and in la ion se ies mo e oge he e y
closely. Howe e , in Figu e 3 we can also see ha he o icial in oduc ion o IT does no seem o
ha e engende ed a signi ican change in in e es a e se ing (i any hing he e is e y sligh
dec ease o he esponse coe icien on in la ion). Unlike in he UK, he esponse coe icien
does no dec ease subs an ially. This may be ela ed o he ac ha a he ime IT was in oduced
in New Zealand he in la ion a e was no a om double-digi alues. The e o e, his policy was
implemen ed in a di e en con ex han, say, in he UK, whe e single-digi in la ion had al eady
been achie ed du ing he 1980s.
24
This esul , oge he wi h he es ima ed insigni ican esponse
o he ou pu gap, is consis en wi h he indings o ime-in a ian s udies (Huang e al., 2001;
Plan ie and Sc imgeou , 2002) ha he RBNZ applied a a he s ic e sion o in la ion
a ge ing. Finally, we ind ha he in e es a e smoo hing pa ame e is again a he modes .
22 The bias co ec ion e ms a e signi ican when we es ima e he model add essing endogenei y, e en hough he
economic signi icance is in gene al no la ge – see he Appendix.
23 Huang e al.
(2001) a gue ha his policy was in e ec since he end o 1988, when he RBNZ abandoned bo h
mone a y and exchange a e a ge ing. They also poin o a speci ic ea u e o RBNZ mone a y policy ha could be
e e ed o as “Open Mou h Ope a ions”. Be ween 1989 and 1999 he RBNZ speci ied a 90-day bank bill a e
consis en wi h p ice s abili y and h ea ened o use quan i a i e con ols o achie e he desi ed ma ke a e i i
de ia ed om he a ge . The e o e, he RBNZ did no con ol his in e es a e pe manen ly and di ec ly.
24 A he end o 1986 New Zealand in oduced VAT, which had a di ec impac on he in la ion a e in he ollowing
wo qua e s. Consequen ly, we include a ime dummy in Q1 and Q2 1987, whose coe icien is es ima ed as posi i e
and signi ican .
21
Figu e 3 – Time- a ying esponse coe icien s in baseline (closed economy) policy ule,
New Zealand
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
86 88 90 92 94 96 98 00 02 04 06
RHO RHO_UB RHO_LB
No e: 95% con idence bands; model wi h bias co ec ion e ms, i.e. dealing wi h endogenei y in mone a y policy
ules. The uppe -le g aph depic s he e olu ion o he neu al a e. The uppe - igh g aph depic s he e olu ion o
he esponse o in e es a es o in la ion. The lowe -le g aph depic s he e olu ion o he esponse o in e es a es
o he ou pu gap. The lowe - igh g aph depic s he e olu ion o he in e es a e smoo hing pa ame e .
When we es ima e he augmen ed model o New Zealand, he e idence o he exchange a e is
no conclusi e. We ind a posi i e esponse o he NEER, which is a he coun e in ui i e in
e ms o he Taylo ule. Howe e , he coe icien is signi ican only be o e he in oduc ion o
IT and i s posi i e sign is p obably ela ed o cu ency app ecia ion ollowing he in e es a e
inc ease. In ha pe iod he RBNZ aimed o keep he exchange a e wi hin a p ede ined ange and
he in e es a e was p obably se so as o in luence he exchange a e ex an e a he han ex pos .
Consis en wi h his inding, F i i (2008) in a ime-in a ian model ejec s he hypo hesis ha he
RBNZ esponded o he exchange a e. On he o he hand, we ind some e idence in a o o
-1.2
-0.8
-0.4
0.0
0.4
0.8
1.2
86 88 90 92 94 96 98 00 02 04 06
GAMMA UBGAMMA LBGAMMA
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
2.0
86 88 90 92 94 96 98 00 02 04 06
BETA UBBETA LBBETA
-4
0
4
8
12
16
20
24
86 88 90 92 94 96 98 00 02 04 06
ALPHA LBALPHA UBALPHA
22
conside a ion o he o eign in e es a e, al hough i s esponse coe icien gene ally dec eased
a e he launch o IT.
Figu e 4 – Time- a ying esponse coe icien s in augmen ed (open economy) policy ule,
New Zealand
No e: 95% con idence bands; model wi h bias co ec ion e ms, i.e. dealing wi h endogenei y in mone a y policy
ules. The le -hand g aph depic s he e olu ion o he esponse o in e es a e o he nominal e ec i e exchange
a e ( he de ia ion om he HP end). The igh -hand g aph depic s he e olu ion o he esponse o he in e es
a e o he o eign in e es a e.
4.3 Aus alia
Ou esul s o Aus alia a e a ailable in Figu es 5 and 6. The esponse o he in e es a e o
in la ion is s onges in he 1980s, which is e y simila o he UK expe ience. This pe iod was
cha ac e ized by in la ion a es o a ound 10% and cen al banke s had o be qui e agg essi e in
in e es a e se ing in o de o b eak he eco d o high in la ion deeply ing ained in public
expec a ions. Nei he mone a y a ge ing (employed un il 1984) no he checklis app oach
(1985–1990) seemed o be success ul in his ega d. The luc ua ion o he in la ion esponse
coe icien poin s o he disc e iona y na u e o policy decisions (making his inding consis en
wi h Leu and Sheen, 2006). The esponse coe icien peaks in 1990 on he e e o IT bu declines
a e he adop ion o his egime. I is again a guable whe he i was he c edibili y o his egime
ha ancho ed in la ion expec a ions and allowed he RBA o beha e less agg essi ely. The
o iginal in la ion decline may also ha e been ela ed o he wo ld ecession in he ea ly 1990s.
Ou esul s dispu e he inding o De B ouwe and Go don (2005) ha he in la ion esponse o
he RBA inc eased as a esul o he launch o in la ion a ge ing.
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
86 88 90 92 94 96 98 00 02 04 06
UBDELTA LBDELTA DELTA
-.2
-.1
.0
.1
.2
.3
.4
86 88 90 92 94 96 98 00 02 04 06
LB_NEER UB_NEER A_NEER
23
As o o he coun ies, he neu al a e declines in he 1990s, e lec ing he global low in la ion
en i onmen . The ou pu gap is no ound o be signi ican and he es ima ed in e es a e
smoo hing is again a he low.
Figu e 5 – Time- a ying esponse coe icien s in baseline (closed economy) policy ule,
Aus alia
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
1975 1980 1985 1990 1995 2000 2005
RHO RHO_LB RHO_UB
No e: 95% con idence bands; model wi h bias co ec ion e ms, i.e. dealing wi h endogenei y in mone a y policy
ules. The uppe -le g aph depic s he e olu ion o he neu al a e. The uppe - igh g aph depic s he e olu ion o
he esponse o in e es a es o in la ion. The lowe -le g aph depic s he e olu ion o he esponse o in e es a es
o he ou pu gap. The lowe - igh g aph depic s he e olu ion o he in e es a e smoo hing pa ame e .
We ind ha he exchange a e does no ha e a signi ican e ec on he sho - e m in e es a e
(besides he NEER we use also he ade-weigh ed index – TWI, which is an exchange a e
measu e epo ed and o en e e ed o by he RBA) excep in he pe iod o 1985–87, when he
cu ency dep ecia ion ( he Aus alian dolla was allowed o loa in 1983 a e a pe iod o a
mo ing peg is-à- is he TWI) was o se by an in e es a e inc ease so as o cu b he in la ion
-.6
-.4
-.2
.0
.2
.4
.6
.8
1975 1980 1985 1990 1995 2000 2005
GAMMA UBGAMMA LBGAMMA
-0.5
0.0
0.5
1.0
1.5
2.0
1975 1980 1985 1990 1995 2000 2005
BETA LBBETA UBBETA
0
4
8
12
16
20
1975 1980 1985 1990 1995 2000 2005
ALPHA LBALPHA UBALPHA
30
Aus alia Canada
0.5
0.6
0.7
0.8
0.9
1.0
1.1
1975 1980 1985 1990 1995 2000 2005
INFLAG INFLAG_LB INFLAG_UB
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1975 1980 1985 1990 1995 2000 2005
INFLAG INFLAG_LB INFLAG_UB
Sweden
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
82 84 86 88 90 92 94 96 98 00 02 04 06
INFLAG INFLAG_LB INFLAG_UB
No e: 95% con idence bands; he coe icien o he AR(1) e m (i.e. model
1
π α ρ π ε
−
= + +
) o he in la ion se ies
employed in he p e ious analysis o each coun y.
4.7 Mone a y Policy Rules – W ap-Up o Main Policy Findings
This sub-sec ion summa izes he main policy- ele an indings o his pape . We ocus on he
ollowing ou issues: 1) mone a y policy agg essi eness and he in la ion a e, 2) mone a y policy
agg essi eness and in la ion a ge ing, 3) in e es a e smoo hing and 4) in la ion pe sis ence and
in la ion a ge ing.

31
Figu e 12 – Mone a y Policy Agg essi eness and In la ion Ta ge ing
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
0.7
0.8
0.9
1.0
1.1
1.2
1.3
AUS CAN NZ
UK SWE
IT Adop ion
No e: The y axis depic s he e olu ion o he es ima ed pa ame e (
β
) ( he esponse o in e es a es o expec ed
in la ion) and
he x axis ep esen s ime, wi h he yea o in la ion a ge ing adop ion deno ed by a black e ical line.
The alue o
β
o New Zealand is plo ed on he igh -hand axis.
Figu e 12 p esen s he link be ween mone a y policy agg essi eness (de ined as he es ima e o
he esponse o in e es a es o expec ed in la ion) and in la ion a ge ing. I can be seen ha in
no coun y did he agg essi eness pa ame e inc ease a e he adop ion o in la ion a ge ing. In
ac , his agg essi eness subs an ially dec eased in he UK, Aus alia and Sweden. I we look a
he link be ween agg essi eness and expec ed in la ion wi hin he IT pe iod, he esul s sugges
ha in mos coun ies he agg essi eness is highe he mo e expec ed in la ion de ia es om i s
a ge . This b oadly co esponds o he indings o Da adakis and Taylo (2006), who documen
a non-linea policy ule o he UK o a simila pa e n.
Figu e 13 documen s a ela i ely s ong link be ween he le el o in la ion and mone a y policy
agg essi eness o he UK, Aus alia and Sweden. This is because 1) he esponse o in e es a es
o in la ion has been pa icula ly s ong du ing pe iods when cen al banke s wan o b eak a
eco d o high in la ion and 2) he esponse has been less agg essi e a e he adop ion o
in la ion a ge ing wi h well-ancho ed in la ion expec a ions. In con as , New Zealand and
Canada do no seem o exhibi a link be ween agg essi eness and in la ion.
32
Figu e 13 – Mone a y Policy Agg essi eness and In la ion Ra e
Uni ed Kingdom
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
0 4 8 12 16 20
24
I
n
l
a
i
o
n
Agg essi eness
New Zealand
0.7
0.8
0.9
1.0
1.1
1.2
1.3
-1 0 1 2 3 4 5 6 7
8
I
n
l
a
i
o
n
Agg essi eness
Aus alia
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1.0
-2 0 2 4 6 8 10 12
14
I
n
l
a
i
o
n
Agg essi eness
Canada
0.6
0.7
0.8
0.9
1.0
1.1
1.2
1.3
-2 0 2 4 6 8 10 12
14
I
n
l
a
i
o
n
Agg essi eness
Sweden
0.0
0.4
0.8
1.2
1.6
2.0
2.4
0 2 4 6 8 10
12
I
n
l
a
i
o
n
Agg essi eness
No e: The igu e p esen s he sca e plo s be ween he in la ion a e and he esponse o in e es a es o expec ed
in la ion (
β
), labeled as agg essi eness, o each coun y indi idually.
The e olu ion o he es ima ed in e es a e smoo hing pa ame e in compa ison o he ime-
in a ian es ima es o he UK in 1979–1990 by Cla ida e al. (2000) is a ailable in Figu e 14. Ou
ime- a ying es ima es o in e es a e smoo hing a e well below he ime-in a ian one, which
seems easonable in he ligh o he ecen c i ique by Rudebusch (2006), who pu s o wa d ha
33
he deg ee o in e es a e smoo hing is ac ually low. While omi ed a iables o pe sis en shocks
we e deemed o be behind he implausible deg ee o policy ine ia, ou empi ical esul s sugges
ha omission o he ime- a ying na u e o he esponse coe icien may be ano he eason o
he o e es ima ion o smoo hing coe icien
ρ
in ime-in a ian policy ules. Mo eo e , gi en
ha he policy ule is modeled as a pa ial adjus men (see Eq. (3)), he o e es ima ion o
smoo hing coe icien
ρ
may d i e he uppe bias in all he o he coe icien s. This seems o
explain why ou long- e m in la ion mul iplie
β
is subs an ially lowe han ound in ime-
in a ian s udies. Though a high
β
is consis en wi h common wisdom, we suspec ha i is a by-
p oduc o he uppe bias in
ρ
.
Figu e 14 – In e es Ra e Smoo hing
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06
AUS CAN Cla ida e al.
NZ SWE UK
No e: The igu e p esen s he e olu ion o he es ima ed in e es a e smoo hing pa ame e
ρ
o e ime in
compa ison o he in e es a e smoo hing pa ame e es ima ed in he ime-in a ian model o Cla ida e al. (2000)
o he UK.
34
Figu e 15 – In la ion Ta ge ing and In la ion Pe sis ence
-0.8
-0.4
0.0
0.4
0.8
1.2
UK SWE AUS
CAN NZ
IT Adop ion
No e: The y axis depic s he e olu ion o he es ima ed in la ion pe sis ence pa ame e and he y axis ep esen s ime,
wi h he yea o in la ion a ge ing adop ion deno ed by a black e ical line.
Finally, he esul s in Figu e 15 plo he es ima es o in la ion pe sis ence o e ime o all
coun ies wi h espec o he in la ion a ge ing adop ion da e. The esul s sugges ha in la ion
pe sis ence dec eased a e he adop ion o in la ion a ge ing, wi h a e y dis inc all in he UK
and New Zealand.
5 Concluding Rema ks
In his pape , we shed ligh on he e olu ion o mone a y policy in he main in la ion a ge ing
cen al banks du ing he las h ee decades. The e olu ion o mone a y policy is e alua ed wi hin
a no el amewo k o a ime- a ying pa ame e model wi h endogenous eg esso s (Kim and
Nelson, 2006), u he add essing small sample issues (Schlich , 1981; Schlich , 2005; Schlich and
Luds eck, 2006).
In ou iew, he esul s poin o he use ulness o his econome ic amewo k o analysis o he
e olu ion o mone a y policy se ing. The es ima ion o s anda d mone a y policy ules e eals
ha policy changes g adually and he changes coincide wi h se e al impo an ins i u ional
e o ms as well as wi h he pe iods when he cen al banks success ully dec eased double-digi
in la ion a es o a es consis en wi h hei de ini ions o p ice s abili y.
In his espec , ou esul s sugges ha he esponse o in e es a es o in la ion is pa icula ly
high du ing pe iods when cen al banke s wan o b eak a eco d o high in la ion, such as in he
35
UK in he ea ly 1980s. Con a y o common wisdom, he esponse is o en ound o be less
agg essi e a e he adop ion o in la ion a ge ing, sugges ing a posi i e ancho ing e ec o his
egime on in la ion expec a ions. In o he wo ds, mone a y policy need no be as agg essi e as
unde a disc e iona y egime in o de o achie e p ice s abili y (Ku ne and Posen, 1999). This
esul is suppo ed by ou inding ha in la ion becomes less ine ial and he policy neu al a e
dec eases a e he adop ion o in la ion a ge ing.
We ind ha ex e nal ac o s ma e o in e es a e se ing in all ou sample coun ies. To be
mo e p ecise, he o eign in e es a e is ound o en e he mone a y policy ule signi ican ly. The
impo ance o he exchange a e a ies, being appa en ly mo e impo an be o e he coun ies
adop ed in la ion a ge ing han a e wa ds.
Ou esul s also indica e ha in e es a e smoo hing is much lowe han ypically epo ed by
ime-in a ian es ima es o mone a y policy ules (see, o example, Cla ida e al., 1998, 2000).
Ou es ima es suppo he ecen c i ique by Rudebusch (2006), who a gues ha he deg ee o
in e es a e smoo hing is a he low. We sugges ha neglec o changes in mone a y policy
se ing o e ime is he eason o he implausible deg ee o policy ine ia p e iously ound.
Mo eo e , he ac ha uppe bias in he smoo hing pa ame e a ec s all he es ima es may
explain some undamen al di e ences be ween ou indings and hose es ablished in he
li e a u e, such as he size o he in la ion esponse coe icien .
In e ms o u u e esea ch we belie e i would be wo hwhile o apply his amewo k o be e
unde s and whe he and how mone a y policy eac s o pe iods o inancial ins abili y and which
ypes o inancial ins abili y a e he mos wo ying o cen al banks. In consequence, his would
imp o e he unde s anding o bo h he in e es a e se ing p ocess and he eac ion o mone a y
policy make s o he cu en global inancial c isis in a mo e sys ema ic manne .

36
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46
Figu e A.2 – Time- a ying esponse coe icien s in baseline (closed economy) policy ule,
New Zealand
-4
0
4
8
12
16
20
24
86 88 90 92 94 96 98 00 02 04 06
ALPHA ALPHA_LB
ALPHA_NOEND ALPHA_UB
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1.8
2.0
86 88 90 92 94 96 98 00 02 04 06
BETA BETA_LB
BETA_NOEND BETA_UB
-1.2
-0.8
-0.4
0.0
0.4
0.8
1.2
86 88 90 92 94 96 98 00 02 04 06
GAMMA GAMMA_LB
GAMMA_NOEND GAMMA_UB
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
86 88 90 92 94 96 98 00 02 04 06
RHO RHO_LB
RHO_NOEND RHO_UB
No e: Model wi h bias co ec ion e ms (solid line); model no dealing wi h endogenei y in mone a y policy ules
(dashed line). The 95% con idence bands co espond o he model wi h bias co ec ion e ms.

47
Figu e A.3 – Time- a ying esponse coe icien s in baseline (closed economy) policy ule,
Aus alia
0
4
8
12
16
20
1975 1980 1985 1990 1995 2000 2005
ALPHA ALPHA_LB
ALPHA_NOEND ALPHA_UB
-0.5
0.0
0.5
1.0
1.5
2.0
1975 1980 1985 1990 1995 2000 2005
BETA BETA_LB
BETA_NOEND BETA_UB
-.6
-.4
-.2
.0
.2
.4
.6
.8
1975 1980 1985 1990 1995 2000 2005
GAMMA GAMMA_LB
GAMMA_NOEND GAMMA_UB
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
1975 1980 1985 1990 1995 2000 2005
RHO RHO_LB
RHO_NOEND RHO_UB
No e: Model wi h bias co ec ion e ms (solid line); model no dealing wi h endogenei y in mone a y policy ules
(dashed line). The 95% con idence bands co espond o he model wi h bias co ec ion e ms.
48
Figu e A.4 – Time- a ying esponse coe icien s in baseline (closed economy) policy ule,
Canada
-4
0
4
8
12
16
1975 1980 1985 1990 1995 2000 2005
ALPHA ALPHA_LB
ALPHA_NOEND ALPHA_UB
-0.4
0.0
0.4
0.8
1.2
1.6
2.0
1975 1980 1985 1990 1995 2000 2005
BETA BETA_LB
BETA_NOEND BETA_UB
-.8
-.6
-.4
-.2
.0
.2
.4
.6
.8
1975 1980 1985 1990 1995 2000 2005
RHO RHO_LB
RHO_NOEND RHO_UB
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1.0
1975 1980 1985 1990 1995 2000 2005
GAMMA GAMMA_LB
GAMMA_NOEND GAMMA_UB
No e: Model wi h bias co ec ion e ms (solid line); model no dealing wi h endogenei y in mone a y policy ules
(dashed line). The 95% con idence bands co espond o he model wi h bias co ec ion e ms.
49
Figu e A.5 – Time- a ying esponse coe icien s in baseline (closed economy) policy ule,
Sweden
0
2
4
6
8
10
12
82 84 86 88 90 92 94 96 98 00 02 04 06
ALPHA ALPHA_LB
ALPHA_NOEND ALPHA_UB
-1
0
1
2
3
4
82 84 86 88 90 92 94 96 98 00 02 04 06
BETA BETA_LB
BETA_NOEND BETA_UB
-0.8
-0.4
0.0
0.4
0.8
1.2
82 84 86 88 90 92 94 96 98 00 02 04 06
GAMMA GAMMA_LB
GAMMA_NOEND GAMMA_UB
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
82 84 86 88 90 92 94 96 98 00 02 04 06
RHO RHO_LB
RHO_NOEND RHO_UB
No e: Model wi h bias co ec ion e ms (solid line); model no dealing wi h endogenei y in mone a y policy ules
(dashed line). The 95% con idence bands co espond o he model wi h bias co ec ion e ms.
50
Table A.1 Es ima ed Coe icien s o Endogenei y Co ec ion Te ms
UK NZ Aus Can Swe
In la ion mean -0.0183
-1.06
-0.17
-0.873
-0.329
s.e. 0.269 0.337 0.0912 0.146 0.119
GDP gap mean 0.0745 -0.031 0.014
-0.127
0.0781
s.e. 0.125 0.27 0.092 0.0559 0.0808
No e: Bold: sign. a 5%, i alic: sign. a 10%.
TÍTOL
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Emilio Padilla Rosa
No emb e
2009
He e ogenei y ac oss Immig an s in he Spanish Labou
Ma ke : Ad an age and Disad an age
09.09
Ca ia Nicodemo
No emb e
2009
A sensi i i y analysis o po e y de ini ions09.08
Nicholas T. Long o d,
Ca ia Nicodemo
Se emb e
2009
Emissions dis ibu ion in pos Kyo o in e na ional
nego ia ions: a policy pe spec i e
09.07
Nicola Can o e,
Emilio Padilla
Juliol 2009Selec ion Bias and Unobse able He e ogenei y applied
a he Wage Equa ion o Eu opean Ma ied Women
09.06
Ca ia Nicodemo
Maig 2009La desigualdad en las in ensidades ene gé icas y la
composición de la p oducción. Un análisis pa a los
países de la OCDE
09.05
Juan An onio Du o Mo eno,
Vicen Alcan a a Escolano,
Emilio Padilla Rosa