Essays on monetary policy and the output gap in the United States

In the first chapter, we identify two major changes in the dynamics of the federal funds rate in the 1990s. We model the desired rate in a two-regime setting, one when the Fed makes no change and the other when the Fed is moving the desired rate to a new level. We find that the 1990s saw longer duration in the no-change regime as well as smaller changes in the other regime. We show the smaller changes were neither due to a less aggressive Fed nor due to lower volatility of the fundamentals. In fact, the Fed responded more aggressively to changes in fundamentals in the 1990s.; The forward-looking versions of the New Keynesian Phillips curve imply that the output gap, the deviation of the actual output from its natural level due to nominal rigidities, drives the dynamics of the difference between the actual rate of inflation and the expected inflation. In the second chapter, we use the above theory to set up a bivariate unobserved component model for extracting new estimates of the output gap in the US. The estimates suggest that the purely transitory component is small and, therefore, the entire transitory component well approximates the gap. We also examine whether the monetary policy can explain the transitory variation in the output. The results indicate that the transitory component driven solely by the monetary policy shocks form only a small part of the total transitory component.; In the third chapter, we examine whether the Fed was more cautious in the 1990s before changing its key interest rates. We use univariate ordered probit models to find out by how much should the fundamentals had to vary to induce a guaranteed change in the key interest rates. The results show that even though the Fed had set higher numerical threshold for a change in the federal funds target rate in the 1990s, they were effectively less cautious due to their more aggressive response to the fundamentals. The results for the discount rate confirm this behavior.