Estimation of monetary policy preferences in a forward-looking model: a Bayesian approach. NBB Working Papers No. 129, 13 March 2008

In this paper, we adopt a Bayesian approach to estimating monetary policy preference parameters in a general equilibrium framework. We start out from the model presented by Smets and Wouters (2003) for the euro area, where, in the original set-up, monetary policy behaviour is described by an empirical rule. We abandon this way of representing monetary policy behaviour and instead assume that monetary policy authorities optimise an intertemporal quadratic loss function under commitment. We consider two alternative specifications for the loss function. The first specification includes inflation, the output gap and difference in the interest rate as target variables. The second loss function includes an additional wage inflation target. The weights assigned to the target variables in the loss functions, i.e. the preferences of monetary policy, are estimated jointly with the structural parameters in the model. The results imply that inflation variability remains the main concern of optimal monetary policy. In addition, interest rate smoothing and the output gap appear to be important target variables as well, albeit to a lesser extent. Comparing the marginal likelihood of the original Smets and Wouters (2003) model to our specification with optimal monetary policy indicates that the latter performs only slightly worse. Since we are faced with the time-inconsistency problem under commitment, we initialise our estimates by considering a pre-sample period of 40 quarters. This enables an empirical approach to the timeless perspective framework

SAFE Newsletter : 2013, Q3

Research: Joachim Weber, Benjamin Loos, Steffen Meyer, Andreas Hackethal "Individual Investors' Trading Motives and Security Selling Behavior" Ignazio Angeloni, Ester Faia "Monetary Policy and Prudential Regulations with Bank Runs" Helmut Siekmann "Legal Limits to Quantitative Easing" Policy Margit Vanberg "SAFE Summer Academy 2013 on 'International Financial Stability'" Guest Commentary Peter Praet "Cooperation between the ECB and Academia

SIGMA: A New Open Economy Model for Policy Analysis

In this paper, we describe a new multicountry open economy SDGE model named "SIGMA" that we have developed as a quantitative tool for policy analysis. We compare SIGMA's implications to those of an estimated large-scale econometric policy model (the FRB/Global model) for an array of shocks that are often examined in policy simulations. We show that SIGMA's implications for the near-term responses of key variables are generally similar to those of FRB/Global. Nevertheless, some quantitative disparities between the two models remain due to certain restrictive aspects of SIGMA's optimization-based framework. We conclude by using long-term simulations to illustrate some areas of comparative advantage of our SDGE modeling framework.

The BoC-GEM-Fin: Banking in the Global Economy

This article describes the Bank of Canada’s version of the Global Economy Model structured to incorporate an active banking system that features an interbank market and cross-border lending. After describing the new model, the authors use it to examine the responses of selected U.S. and Canadian macroeconomic variables to a “credit crunch” in the United States and also to study the impact of changes in the regulatory limits to bank leverage in Canada. They also discuss the relative merits of a monetary policy framework based on inflation targeting and one based on price-level targeting in the presence of shocks to the U.S. and Canadian banking sectors.