Quantification of qualitative survey data and small open -economy inflation targeting models

Lin Xia, Purdue University

Abstract

This dissertation contains three essays. The first essay presents a new likelihood based approach for quantification of qualitative survey data on expectations and perceptions. A likelihood ratio test for model consistent expectations is proposed. Evidence from the Monte Carlo simulation studies demonstrate that the likelihood approach promises to deliver a more efficient quantification scheme whenever prior information on the underlying process of the variable of interest is available. Finally an empirical illustration is provided: We show that if actual average change rates of selling prices of British manufacturing industry are assumed to follow a two-state Markov regime-switching model, the likelihood ratio test cannot reject the hypothesis of consistent expectations using the Confederation of British Industry (CBI) survey data. The second essay is a critique of Svensson (2000)'s model. After a thorough analysis on his model, we are left with several questions and believe that a number of issues are worthy of further discussion. Our concerns with his model can be roughly divided into two categories. Some arise from the model's structural design itself and can be called 'structural issues'. Others are peculiarities in the results which are called 'resulting problems'. By making a comparative analysis, we find that many of the peculiarities are model-wide problems. In the third essay, we analyze a central bank's optimal monetary policy rules using a simple open-economy model with an endogenous exchange risk premium. One notable feature of the model as well as a major departure from previous theoretical literature is that a balance of payments equation, which highlights the relationship between the current account and capital account, is used as an important linkage between the domestic economy and the rest of the world. In particular, this balance of payments equation under our model framework implies an endogenous exchange risk premium. Hence, the model overcomes the drawbacks of assuming an exogenous autoregressive exchange risk premium or assuming uncovered interest parity (UIP), which in general does not hold according to considerable empirical evidence. More importantly, the persistence of the endogenous risk premium shown in our model matches previous findings about risk premium patterns.

Degree

Ph.D.

Advisors

Carlson, Purdue University.

Subject Area

Economics|Economic theory

COinS