Effects of Inflation on Output Gap: A MRS-IV Approach

Mustafa Caglayan (), Ozge Kandemir Kocaaslan and Kostas Mouratidis
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Ozge Kandemir Kocaaslan: Hacettepe University, Ankara, Turkey

Review of Economic Analysis, 2015, vol. 7, issue 1, 3-23

Abstract: In this paper, we propose an analytical framework to explore the level and volatility effects of inflation on the output gap. Using quarterly US data over 1977:q2-2009:q4, we then examine the empirical implications of the model by implementing an instrumental variables Markov regime switching approach. We show that inflation uncertainty has a negative and regime dependent impact on the output gap but the level of inflation does not have any such effect. Our empirical investigation also provides evidence that the US economy is moving towards a period of turmoil before the recent financial crisis was imminent. The results are robust to the use of alternative measures of inflation uncertainty.

Keywords: Output gap; inflation uncertainty; Markov-switching modeling; instrumental variables; endogeneity (search for similar items in EconPapers)
JEL-codes: E31 E32 (search for similar items in EconPapers)
Date: 2015
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Persistent link: https://EconPapers.repec.org/RePEc:ren:journl:v:7:y:2015:i:1:p:3-23

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