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

International Monetary Fund

No 2005/086, IMF Working Papers from International Monetary Fund

Abstract: 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.

Keywords: WP; central bank; least squares; IV estimate; national interest; least squares estimate; monetary policy intervention; monetary policy decision; bias of estimate; effect of monetary policy; Production growth; Inflation; Exchange rate arrangements; Real interest rates; Vector autoregression; Global (search for similar items in EconPapers)
Pages: 39
Date: 2005-04-01
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Citations: View citations in EconPapers (1)

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