A Model of Natural Interest Rate: The Case of Bulgaria

Dilian Vassilev

Economic Studies journal, 2021, issue 7, 46-72

Abstract: The proposed model estimation of the natural interest rate for Bulgaria is based on the seminal model of Laubach and Williams (2003), as important modifications are implemented in order to capture the specifics of the Bulgarian economy. As a small and open economy, the real effective exchange rate is included in measurement equations as well as the Eurozone output gap. Second, we incorporate stylised facts and observations about the behaviour of the Bulgarian economy, such as the steady-state growth rates of potential output and initial guidance about the level of natural interest rates. We circumvent the “pile-up” issue by imposing certain assumptions about the level and growth rates of potential output and time preferences of economic agents. In order to validate the consistency and reliability of the assumptions, we counterfactually evaluate the past and present BG monetary conditions by estimating the real rate gap, i.e. compare the observed real interest rate (r) against the natural rate (r*). We find that, contrary to many advanced economies, the natural real interest rate of the Bulgarian economy does not show a declining trend, i.e. the economy after 2008, i.e. it is not under the precondition of “secular stagnation”. This means that BNB’s monetary space is far from being exhausted so far. This is due to the fact, that Bulgarian productivity growth (as a catching-up economy) is predominantly exogenous (imported) and the growth rate of productivity proved sustainable even after 2008 and well compensates for the detrimental demographics. The results from the Taylor rule exercise confirm counterfactually, that the Bulgarian short term interest rates are justified, thus the transition to the inflation targeting regime of ECB is expected to be smooth.

JEL-codes: B15 E50 N10 O47 (search for similar items in EconPapers)
Date: 2021
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://www.iki.bas.bg/Journals/EconomicStudies/20 ... ian-Vassilev_f_F.pdf

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:bas:econst:y:2021:i:7:p:46-72

Access Statistics for this article

More articles in Economic Studies journal from Bulgarian Academy of Sciences - Economic Research Institute Contact information at EDIRC.
Bibliographic data for series maintained by Diana Dimitrova ().