Monetary Policy, Trend Inflation and the Great Moderation: An Alternative Interpretation - Comment

Arias, Jonas E.; Ascari, Guido; Branzoli, Nicola; Castelnuovo, Efrem

Working Paper

Monetary Policy, Trend Inflation and the Great Moderation: An Alternative Interpretation - Comment

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; monetary policy;

JEL Classification: C22; E30; E52;