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WORK ING PAPER S ER I E SNO. 323 / MARCH 2004

ON THE INDETERMINACY OF NEW-KEYNESIANECONOMICS

by Andreas Beyerand Roger E. A. Farmer

In 2004 all publications

will carry a motif taken

from the !100 banknote.

WORK ING PAPER S ER I E SNO. 323 / MARCH 2004

ON THE INDETERMINACY

OF NEW-KEYNESIANECONOMICS1

by Andreas Beyer 2

and Roger E. A. Farmer 3

1 The views expressed in this paper are those of the authors and do not necessarily represent those of the ECB.We are grateful to Thomas Lubik, Frank Schorfheide and an anonymous referee for helpful comments on an earlier version of this paper.The first version of

this paper was completed in the summer of 2003 while Farmer was visiting the Directorate General Research as part of the EuropeanCentral Bank’s Research Visitor Programme. He wishes to thank members of DG-Research for their kind hospitality

2 European Central Bank, DG Research, Postfach 16 03 19, D-60311 Frankfurt am Main. Email:[email protected] UCLA, Dept. of Economics, 8283 Bunche Hall, Box 951477, Los Angeles, CA 90095-147, Email: [email protected].

This paper can be downloaded without charge from http://www.ecb.int or from the Social Science Research Network

electronic library at http://ssrn.com/abstract_id=526986.

© European Central Bank, 2004

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Reproduction for educational and non-commercial purposes is permitted providedthat the source is acknowledged.

The views expressed in this paper do notnecessarily reflect those of the EuropeanCentral Bank.

The statement of purpose for the ECBWorking Paper Series is available from theECB website, http://www.ecb.int.

ISSN 1561-0810 (print)ISSN 1725-2806 (online)

3ECB

Work ing Paper Ser ie s No . 323March 2004

CONTENT S

Abstract 4Non-technical summary 51 Introduction 72 A class of linear models 10

2.1 The structural form 102.3 The reduced form 12

3 Identification 144 A one equation example 205 A summary of the

New-Keynesian model 236 Experiments with the

New Keynesian model 266.1 Experiment 1: policy rules

are not identified 276.2 Experiment 2: we can’t tell if

the Phillips curve is backward orforward looking 28

6.3 Experiment 3: we can’tdistinguish alternative theoriesof aggregate supply 30

6.4 Experiment 4: the importanceof transparency 35

7 Conclusions 38References 39European Central Bankworking paper series 43

4ECBWork ing Paper Ser ie s No . 323March 2004

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June

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F.

H. P.

J.-P.

P.

A.


óéSeptember

D.

ü

G.

9 Designing targeting rules for international monetary policy cooperationG. Benigno

P. BenignoOctober

80 Inflation, factor substitution and growthR. Klump, October 2003.

81 Identifying fiscal shocks and policy regimes in OECD countriesG. de Arcangelis and

S. Lamartina, October 2003.

.

82 Optimal dynamic risk sharing when enforcement is a decision variableT. V. Koeppl,

October 2003.

83 US, Japan and the euro area: comparing business-cycle featuresP. McAdam,

November 2003.

84 The credibility of the monetary policy ‘free lunch’J. Yetman, November 2003.

85 Government deficits, wealth effects and the price level in an optimizing model

by B. Annicchiarico, November 2003.

86 Country and sector-specific spillover effects in the euro area, the United States and Japan

by B. Kaltenhaeuser, November 2003.

87 Consumer inflation expectations in PolandT. !yziak, November 2003.

88 Implementing optimal control cointegrated I(1) structural VAR models by F. V. Monti,

November 2003.

89 Monetary and fiscal interactions in open economies by G. Lombardo and A. Sutherland,

November 2003.

47ECB


91 Measuring the time-inconsitency of US monetary policyP. Surico November 2003.

90 persistence and robust monetary policy designG. Coenen November 2003.

92 Bank mergers, competition and liquidityE. Carletti, P. Hartmann and G. Spagnolo

November 2003.

93 Committees and special interests” by M. Felgenhauer and H. P. Grüner November 2003.

94 Does the yield spread predict recessions in the euro area?” by F. Moneta December 2003.

95 Optimal allotment policy in the eurosystem’s main refinancing operations?” by C. Ewerhart

N. Cassola, S. Ejerskov and N. Valla, December 2003.

96 Monetary policy analysis in a small open economy using bayesian cointegrated structural VARs?”

by M. Villani and A. Warne, December 2003.

97 Measurement of contagion in banks’ equity pricesR. Gropp and G. Moerman December 2003.

98 The lender of last resort: a 21st century approach” by X. Freixas, B. M. Parigi and J.-C. Rochet,

December 2003.

99 Import prices and pricing-to-market effects in the euro areaT. Warmedinger January 2004.

300 Developing statistical indicators of the integration of the euro area banking system

by M. Manna, January 2004.

301 Inflation and relative price asymmetry” by A. Rátfai, January 2004.

302 Deposit insurance, moral hazard and market monitoring” by R. Gropp and J. Vesala, February 2004.

303 Fiscal policy events and interest rate swap spreads: evidence from the EU” by A. Afonso and

R. Strauch, February 2004.

304 Equilibrium unemployment, job flows and inflation dynamics” by A. Trigari, February 2004.

305 A structural common factor approach to core inflation estimation and forecasting”

by C. Morana, February 2004.

306 A markup model of inflation for the euro area” by C. Bowdler and E. S. Jansen, February 2004.

307 Budgetary forecasts in Europe - the track record of stability and convergence programmes”

by R. Strauch, M. Hallerberg and J. von Hagen, February 2004.

308 International risk-sharing and the transmission of productivity shocks” by G. Corsetti, L. Dedola

and S. Leduc, February 2004.

309 Monetary policy shocks in the euro area and global liquidity spillovers” by J. Sousa and A. Zaghini,

February 2004.

310 International equity flows and returns: A quantitative equilibrium approach” by R. Albuquerque,

G. H. Bauer and M. Schneider, February 2004.

311 Current account dynamics in OECD and EU acceding countries – an intertemporal approach”

by M. Bussière, M. Fratzscher and G. Müller, February 2004.


312 Similarities and convergence in G-7 cycles” by F. Canova, M. Ciccarelli and E. Ortega, February 2004.

313 The high-yield segment of the corporate bond market: a diffusion modelling approach

for the United States, the United Kingdom and the euro area” by G. de Bondt and D. Marqués,

February 2004.

314 Exchange rate risks and asset prices in a small open economy” by A. Derviz, March 2004.

315 Option-implied asymmetries in bond market expectations around monetary policy actions of the ECB” by S. Vähämaa, March 2004.

316 Cooperation in international banking supervision” by C. Holthausen and T. Rønde, March 2004.

317 Fiscal policy and inflation volatility” by P. C. Rother, March 2004.

318 Gross job flows and institutions in Europe” by R. Gómez-Salvador, J. Messina and G. Vallanti, March 2004.

319 Risk sharing through financial markets with endogenous enforcement of trades” by T. V. Köppl, March 2004.

320 Institutions and service employment: a panel study for OECD countries” by J. Messina, March 2004.

321 Frequency domain principal components estimation of fractionally cointegrated processes”

by C. Morana, March 2004.

322 Modelling inflation in the euro area” by E. S. Jansen, March 2004.

49ECB


323 On the indeterminacy of New-Keynesian economics” by A. Beyer and R. E. A. Farmer, March 2004.

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