2009
20/2009
Testing the structural interpretation of the price puzzle with a cost channel model
Author(s): Efrem Castelnuovo
2009. 34 pages.
Publisher: Bank of Finland
ISBN 978-952-462-524-1 (Printed publication)
ISBN 978-952-462-525-8 (Web publication)
Search words: cost channel, inflation dynamics, price puzzle, trend inflation, E30, E52, Efrem Castelnuovo
We estimate a new-Keynesian DSGE model with the cost channel to assess its ability to replicate the price puzzle ie the inflationary impact of a monetary policy shock typically arising in VAR analysis. In order to correctly identify the monetary policy shock, we distinguish between a standard policy rate shifter and a shock to trend inflation ie the time-varying inflation target set by the Fed. While offering some statistical support to the cost channel, our estimated model clearly implies a negative inflation reaction to a tightening of monetary policy. We offer a discussion of the possible sources of mismatch between the VAR evidence and our own.