Working Paper: CEPR ID: DP7036
Authors: Maria Demertzis; Massimiliano Marcellino; Nicola Viegi
Abstract: Our objective is to identify a way of checking empirically the extent to which expectations are de-coupled from inflation, how well they might be anchored in the long run, and at what level. This methodology allows us then to identify a measure for the degree of anchorness, and as anchored expectations are associated with credibility, this will serve as a proxy for credibility. We apply this methodology to the US history of inflation since 1963 and examine how well our measure tracks the periods for which credibility is known to be either low or high. Of particular interest to the validity of the measure is the start of the Great Moderation. Following the narrative of a number of well documented incidents in this period, we check how well our measure captures both the evolution of credibility in US monetary policy, as well as reactions to inflation scares.
Keywords: anchors for expectations; credibility; great inflation; great moderation
JEL Codes: E52; E58
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Credible inflation expectations regime (E31) | Disconnect between inflation and inflation expectations dynamics (E31) |
| Lagged actual inflation (E31) | Expected inflation (E31) |
| Credibility of monetary policy (E52) | Anchorness of inflation expectations (E31) |
| Periods of low credibility (E32) | Interaction between actual inflation and long-term inflation expectations (E31) |
| Periods of high credibility (E32) | No significant correlation between actual inflation and long-term expectations (E31) |