Empirical Economics

, Volume 52, Issue 1, pp 191–227 | Cite as

Searching for the Fed’s reaction function

Article

Abstract

There is still some doubt about those economic variables that really matter for the Fed’s decisions. In comparison with other estimations, this study uses the approach of Bayesian model averaging (BMA). The estimations show that over the long-run inflation, unemployment rates and long-term interest rates are the crucial variables in explaining the Federal Funds Rate. In the other two estimation samples, also the fiscal deficit and monetary aggregates were of relevance. There is also evidence for interest rate smoothing. In addition, we account for parameter instability by combining BMA with time-varying coefficient (TVC) modelling. We find strong evidence for structural breaks. Finally, a model average is constructed via an TVC-BMA approach.

Keywords

Fed Monetary policy reaction functions Model uncertainty Bayesian model averaging Parameter instability 

JEL Classification

E43 E52 E58 

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Copyright information

© Springer-Verlag Berlin Heidelberg 2016

Authors and Affiliations

  1. 1.Institute of EconomicsFriedrich-Alexander-Universität Erlangen-NürnbergErlangenGermany

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