The Taylor Principle and Monetary Policy Approaching a Zero Bound on Nominal Rates: Quantile Regression Results for the United States and Japan

Abstract

This paper offers a new approach that estimates the response of interest rates to inflation and the output gap at various points (quantiles) on the conditional distribution of interest rates. This offers an improvement on empirical estimates conducted only at the mean and also allows us to test the propositions that policy shows greater aggression to inflation in the reaction function in terms of a greater response coefficient as interest rates reach low levels, and increasing aggression as the lower bound is approached. We find support for the Taylor principle, a more aggressive response to inflation than under a Taylor rule, but no detectable evidence of increasing aggression as the zero lower bound is approached in the US and Japan. Copyright (c) 2009 The Ohio State University.

The Japanese Taylor rule estimated using censored quantile regressions

“…accordingly, our core inflation data span from July 1985 through September 2013. 7 We use industrial production indices to measure output, following Clarida et al (1998), Bernanke and Gertler (1999), and Chevapatrakul et al (2009). The data are available at a monthly frequency and are collected from the Ministry of Economy, Trade and Industry.…”

“…5 The monthly Japanese data for the consumer price index (CPI) for all items less fresh food are collected from the Ministry of Internal Affairs and Communications. Using these CPI data, we construct 1-year-ahead ex post core inflation 6 rates and, 3 Although Chevapatrakul et al (2009) present data up to 2005 for Japan, their estimation uses a sample that ends before February 1999, to study the monetary policy when the ZLB is approached. 4 The 2SQR methodology is based on the fitted value approach, which extends Amemiya (1982), whereas the IVQR method builds on the instrumental variable approach suggested by Chernozhukov and Hansen (2005, 2008.…”

“…The data are available at a monthly frequency and are collected from the Ministry of Economy, Trade and Industry. Output-gap data are constructed using the Hodrick-Prescott (HP) filter with smoothing parameter 14400, as in Chevapatrakul et al (2009). Figure 1 plots the uncollateralized overnight call rate and the core inflation rate (in percent) from July 1985 through September 2013.…”

“…Note that Chevapatrakul et al (2009) and Wolters (2012) do not need to account for censoring since these studies conduct estimations using a sample that ends prior to the period of zero interest rates. 3 To address endogeneity, Chevapatrakul et al (2009) apply 2SQR, while Wolters (2012 applies an instrumental variable quantile regression (IVQR). 4 Building upon these works that adopt uncensored quantile regressions to estimate monetary policy rules, we take into account the ZLB in our estimation, since we include the periods of zero interest rates in our sample.…”

“…First, several works estimate the Taylor rule using quantile regressions, such as Chevapatrakul et al (2009), who study the USA and Japan, and Wolters (2012), who focuses on the USA. Note that Chevapatrakul et al (2009) and Wolters (2012) do not need to account for censoring since these studies conduct estimations using a sample that ends prior to the period of zero interest rates. 3 To address endogeneity, Chevapatrakul et al (2009) apply 2SQR, while Wolters (2012 applies an instrumental variable quantile regression (IVQR).…”