Monetary policy and inflation in the 70s

Abstract

An influential paper by Clarida, Gali, and Gertler (2000) has attributed the great inflation of the 1970s to the violation of the Taylor principle in the conduct of U.S. monetary policy (weak, indeterminacy inducing response to expected inflation).We evaluate this thesis in the context of a standard New Keynesian model against a version of the model that incorporates incomplete information learning about the true state of the economy. The likelihoodbased estimation of the model overwhelmingly favors the specification with indeterminacy over the alternatives with determinacy, independent of the presence and size of misperceptions.