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The P* model and its performance for the Spanish economy

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  • Vicente Pallardo
  • Vicente Esteve

Abstract

The performance of the P* model is tested as an inflation forecaster for the Spanish economy. It is shown that log-run relationships work as expected according to the model and the Quantitative Theory of Money. The Error Correction Model constructed by using the gap between actual prices and the long-term equilibrium price level as an error correction term, offers a consistent explanation for the short-run dynamics in prices. On the other hand, the P* approach shows a forecasting ability similar to that presented for other countries in several studies, although the degree of accuracy in the prediction is not specially satisfactory, mainly for the period 1989:3- 1992:3, when the credibility effect generated by the inclusion of the Spanish peseta in the European Monetary System led to an inflation rate much lower than that predicted by the model. Results support the option of a direct inflation target (instead of a monetary aggregate) as the intermediate variable of the monetary policy.

Suggested Citation

  • Vicente Pallardo & Vicente Esteve, 2000. "The P* model and its performance for the Spanish economy," Applied Financial Economics, Taylor & Francis Journals, vol. 10(4), pages 449-459.
    • Handle: RePEc:taf:apfiec:v:10:y:2000:i:4:p:449-459
    DOI: 10.1080/09603100050031570
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    References listed on IDEAS

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    1. Mr. Ramana Ramaswamy, 1997. "Monetary Frameworks: Is There a Preferred Option for the European Central Bank?," IMF Policy Discussion Papers 1997/006, International Monetary Fund.
    2. Vogelsang, Timothy J & Perron, Pierre, 1998. "Additional Tests for a Unit Root Allowing for a Break in the Trend Function at an Unknown Time," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(4), pages 1073-1100, November.
    3. Jeffrey J. Hallman & Richard D. Porter & David H. Small, 1989. "M2 per unit of potential GNP as an anchor for the price level," Staff Studies 157, Board of Governors of the Federal Reserve System (U.S.).
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