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The Neutrality of Nominal Rates: How Long is the Long Run?

Publication Year 
JEL Code 
E31 - Price Level; Inflation; Deflation
E32 - Business Fluctuations; Cycles
E52 - Monetary Policy (Targets, Instruments, and Effects)
E58 - Central Banks and Their Policies
How can inflation be raised in economies such as Japan and the euro area where it has been below the objective for quite some time? We estimate an empirical model aimed at identifying the effects of permanent and temporary monetary shocks for the U.S., Japan, France, the U.K., Germany and the euro area. We find that the permanent monetary shock leads to a permanent rise in nominal rates and inflation. Importantly, the short-run effects of this permanent shock are similar to the long-run effects: inflation responds positively and immediately to a permanent rise in nominal rates, confirming the results in Uribe (2017, 2018). We also reinvestigate the long-run relation between inflation and nominal short interest rates. Using data for 41 developed countries covering the last 50 years, we document a strong, yet below one-for-one relationship between nominal rates and inflation, that tends to be less visible over the more recent period, characterized by inflation targeting at low common levels.
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