TY - JOUR
T1 - The optimal neglect of inflation: an alternative interpretation of UK monetary policy during the “Great Moderation”
AU - Boinet, V
AU - Martin, Christopher
PY - 2010/12
Y1 - 2010/12
N2 - This paper argues that UK monetary policymakers did not respond to the inflation rate during most of the “Great Moderation” that ran from the early 1990s to the mid-2000s. We derive a generalisation of the New Keynesian Phillips curve in which inflation is a nonlinear function of the output gap and show that the optimal response of the policy rule to inflation depends on the slope of the Phillips curve; if this is flat, manipulation of aggregate demand through monetary policy does not affect inflation and so policymakers cannot affect inflation. We estimate the monetary policy rules implied by a variety of alternative Phillips curves; our preferred model is based on a Phillips curve that is flat when output is close to equilibrium. We find that policy rates do not respond to inflation when the output gap is small, a situation that characterised most of the “great moderation” period.
AB - This paper argues that UK monetary policymakers did not respond to the inflation rate during most of the “Great Moderation” that ran from the early 1990s to the mid-2000s. We derive a generalisation of the New Keynesian Phillips curve in which inflation is a nonlinear function of the output gap and show that the optimal response of the policy rule to inflation depends on the slope of the Phillips curve; if this is flat, manipulation of aggregate demand through monetary policy does not affect inflation and so policymakers cannot affect inflation. We estimate the monetary policy rules implied by a variety of alternative Phillips curves; our preferred model is based on a Phillips curve that is flat when output is close to equilibrium. We find that policy rates do not respond to inflation when the output gap is small, a situation that characterised most of the “great moderation” period.
KW - non-linearity
KW - monetary policy
KW - Phillips curve
UR - http://www.scopus.com/inward/record.url?scp=77957926289&partnerID=8YFLogxK
UR - http://dx.doi.org/10.1016/j.jmacro.2010.06.005
U2 - 10.1016/j.jmacro.2010.06.005
DO - 10.1016/j.jmacro.2010.06.005
M3 - Article
VL - 32
SP - 982
EP - 992
JO - Journal of Macroeconomics
JF - Journal of Macroeconomics
SN - 0164-0704
IS - 4
ER -