Estimating Trend Inflation Based on Unobserved Components Model: Is It Correlated with the Inflation Gap?

Shih‐tang Hwu and Chang‐jin Kim

Journal of Money, Credit and Banking, 2019, vol. 51, issue 8, 2305-2319

Abstract: Building on the work of Stock and Watson (2007), this paper empirically shows that a negative correlation between innovations to trend inflation and the inflation gap plays an important role in the dynamics of postwar U.S. inflation. Additional features that we incorporate in our model include regime‐switching inflation gap persistence and association between inflation and inflation uncertainty. The resulting estimate of trend inflation is smooth, and our model provides superior out‐of‐sample forecasts than Stock and Watson's (2007) unobserved components model with stochastic volatility or than Atkeson and Ohanian's (2001) random walk model does.

Date: 2019
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https://doi.org/10.1111/jmcb.12600

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Persistent link: https://EconPapers.repec.org/RePEc:wly:jmoncb:v:51:y:2019:i:8:p:2305-2319

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