Working Paper: CEPR ID: DP14074
Authors: J. David López-Salido; Francesca Loria
Abstract: We find that the recent muted response of the conditional mean of inflation to economic conditionsdoes not convey an adequate representation of the overall pattern of inflation dynamics.Analyzing data from the 1970s reveals ample variability in the entire conditional distribution ofinflation. Focusing on the period from 2000 onward bolsters this evidence. Using time-seriesdata for the United States and the Euro Area, we document that looking at the entire conditionaldistribution of inflation uncovers – after controlling for the state of the labor market and inflationexpectations – that heightened financial conditions carry substantial and persistent low-inflationrisks, a feature overlooked by much of the literature. Our paper offers a new empiricalperspective to existing macroeconomic models, showing that changes in credit conditions arealso key to understand the dynamics of the inflation tails.
Keywords: quantile regression; inflation risk
JEL Codes: C21; E31
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Heightened financial conditions (E44) | Substantial low-inflation risks (E31) |
| Changes in credit conditions (E51) | Dynamics of inflation tails (E31) |
| Tighter financial conditions (E44) | Increase in probability of low inflation outcomes (E31) |
| Labor market conditions (J29) | Dynamics of inflation tails (E31) |
| Inflation expectations (E31) | Dynamics of inflation tails (E31) |