Tim Guy questions the conclusion from Obstfeld et. al. (in an IMF post here https://blog-imfdirect.imf.org/2016/03/24/oil-prices-and-the-global-economy-its-complicated/) that the weak macro response to lower oil prices is due to a rise in real interest rates (lower oil prices reduce inflation expectations and policy rates are already close to zero, real rates go up)… Here is what I like from Guy:
“The trouble with that is that while oil is a nonstationary process – it is not mean reverting, nor is there reason to believe it should be a mean reverting series. Inflation expectations, however, should be a mean reverting series.
Or more specifically, it should be mean reverting if the central bank is credibly committed to their inflation target. If the central bank is credible, then we anticipate that policymakers will respond with policy that offsets inflation shocks to maintain their inflation target. Hence, inflation expectations should revert to that target and we would expect the series to be stationary.”
His bottom line:
“Be wary of claims that oil prices are influencing inflation expectations; the recent correlation is likely spurious. Inflation expectations look to be following a mean reverting process, indicating that the Federal Reserve’s has credibly committed to their inflation target. We should expect policymakers will maintain such credibility if they continue to react to inflation shocks with offsetting policy.”
Read the whole thing here:
http://economistsview.typepad.com/timduy/2016/03/oil-inflation-expectations-and-credibility.html
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