Friday, March 28, 2014

Identifying monetary regime change?

I was looking at a post from a few weeks ago and noticed this diagram of a local parameter value for the information transfer index κ fit to the price level (blue dots) and how it fits with letting κ ~ log MB/log NGDP (the black line):

But notice how constant the value is before 1980? Did we switch over from a constant  κ model to a varying κ =  κ(NGDP, MB) with the Volcker Fed? Here's the kappa values fit to that model:

And the resulting price level graph:

It does improve the fit before 1980. The interesting thing is that a constant κ model leads to rising interest rates for κ<0.9, which was definitely true before 1980. However, lower values of κ lead to rising rates as well.

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