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Measuring changes in the value of the numeraire

Author

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  • Mark W. Watson

    (Princeton University)

  • Ricardo Reis

    (Princeton University)

Abstract

This paper estimates a common component in many price series that has an equiproportional effect on all prices. Changes in this component can be interpreted as changes in the value of the numeraire since, by definition, they leave all relative prices unchanged. The first aim of the paper is to measure these changes. The paper provides a framework for identifying this component, suggests an estimator for the component based on a dynamic factor model, and assesses its performance relative to alternative estimators. Using 187 U.S. time-series on prices, we estimate changes in the value of the numeraire from 1960 to 2006, and further decompose these changes into a part that is related to relative price movements and a residual ‘exogenous’ part. The second aim of the paper is to use these estimates to investigate two economic questions. First, we show that the size of exogenous changes in the value of the numeraire helps distinguish between different theories of pricing, and that the U.S. evidence argues against several strict theories of nominal rigidities. Second, we find that changes in the value of the numeraire are significantly related to changes in real quantities, and discuss interpretations of this apparent non-neutrality.

Suggested Citation

  • Mark W. Watson & Ricardo Reis, 2007. "Measuring changes in the value of the numeraire," 2007 Meeting Papers 324, Society for Economic Dynamics.
    • Handle: RePEc:red:sed007:324
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    Cited by:

    1. Ricardo Reis & Mark W. Watson, 2010. "Relative Goods' Prices, Pure Inflation, and the Phillips Correlation," American Economic Journal: Macroeconomics, American Economic Association, vol. 2(3), pages 128-157, July.
    2. Michał Brzoza-Brzezina & Jacek Kotłowski, 2009. "Bezwzględna stopa inflacji w gospodarce polskiej," Gospodarka Narodowa. The Polish Journal of Economics, Warsaw School of Economics, issue 9, pages 1-21.
    3. Jean Boivin, 2009. "Getting it Right When You Might Be Wrong: The Choice Between Price-Level and Inflation Targeting," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 297, September.
    4. Maćkowiak, Bartosz & Moench, Emanuel & Wiederholt, Mirko, 2009. "Sectoral price data and models of price setting," Journal of Monetary Economics, Elsevier, vol. 56(S), pages 78-99.
    5. Michal Brzoza-Brzezina & Jacek Kotlowski, 2009. "Estimating pure inflation in the Polish economy," Working Papers 37, Department of Applied Econometrics, Warsaw School of Economics.
    6. David Mayes & Matti Virén, 2010. "The Impact of Asset Prices and their Information Value for Monetary Policy," Revista ESPE - Ensayos Sobre Política Económica, Banco de la República, vol. 28(61), pages 134-167, August.
    7. Mark A. Wynne, 2008. "How should central banks define price stability?," Globalization Institute Working Papers 08, Federal Reserve Bank of Dallas.
    8. Dobrescu, Emilian, 2011. "Sectoral Structure and Economic Growth," Journal for Economic Forecasting, Institute for Economic Forecasting, vol. 0(3), pages 5-36, September.

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    More about this item

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • C43 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics - - - Index Numbers and Aggregation
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models

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