Following Germany’s Lead: Using International Monetary Linkages to Identify the Effect of Monetary Policy on the Economy

April 1, 2005

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Following Germany’s Lead: Using International Monetary Linkages to Identify the Effect of Monetary Policy on the Economy, (USA: International Monetary Fund, 2005) accessed December 23, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

Forward-looking behavior on the part of the monetary authority leads least squares estimates to understate the true growth consequences of monetary policy interventions. We present instrumental variables estimates of the impact of interest rates on real output growth for several European countries, using German interest rates as the instrument. We show that the difference between least squares and instrumental variables estimates provides bounds for the degree of endogeneity in monetary policy. The results confirm a considerable downward bias of estimates that do not account for potential forward-looking monetary policy decisions. The bias is higher for countries whose monetary policy was more independent of Germany.

Subject: Banking, Econometric analysis, Exchange rate arrangements, Exchange rates, Financial services, Foreign exchange, Inflation, Prices, Production, Production growth, Real interest rates, Vector autoregression

Keywords: Bias of estimate, Central bank, Effect of monetary policy, Exchange rate arrangements, Global, Inflation, IV estimate, Least squares, Least squares estimate, Monetary policy decision, Monetary policy intervention, National interest, Production growth, Real interest rates, Vector autoregression, WP

Publication Details

Pages:

39
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2005/086
Stock No:

WPIEA2005086
ISBN:

9781451861051
ISSN:

1018-5941

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