Working Paper Series no. 577: On the sources of macroeconomic stability in the euro area
Abstract
In the mid-1990s the euro area experienced a change in macroeconomic volatility. Around the same time, at business cycle frequencies the correlation between inflation and money growth changed markedly, turning from positive to negative. Distinguishing the periods pre- and post-1994, we estimate a dynamic stochastic general equilibrium model with money for the euro area. The model accounts for the salient facts. We then perform several counterfactual exercises to assess the drivers of these phenomena. The moderation of real variables was essentially due to relatively smaller shocks to investment, wage markups and preferences. The apparent lack of evidence for the quantity theory of money in the short run and the changes in the volatility of nominal variables resulted primarily from a more anti-inflationary and gradual monetary policy.
Sanvi Avouyi-Dovi and Jean-Guillaume Sahuc
November 2015
Classification JEL : E32, E51, E52
Keywords : Macroeconomic volatility, quantity theory of money, monetary policy, DSGE model, euro area
Abstract
In the mid-1990s the euro area experienced a change in macroeconomic volatility. Around the same time, at business cycle frequencies the correlation between inflation and money growth changed markedly, turning from positive to negative. Distinguishing the periods pre- and post-1994, we estimate a dynamic stochastic general equilibrium model with money for the euro area. The model accounts for the salient facts. We then perform several counterfactual exercises to assess the drivers of these phenomena. The moderation of real variables was essentially due to relatively smaller shocks to investment, wage markups and preferences. The apparent lack of evidence for the quantity theory of money in the short run and the changes in the volatility of nominal variables resulted primarily from a more anti-inflationary and gradual monetary policy.
Sanvi Avouyi-Dovi and Jean-Guillaume Sahuc
November 2015
Classification JEL : E32, E51, E52
Keywords : Macroeconomic volatility, quantity theory of money, monetary policy, DSGE model, euro area
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