A test of the P-Star model

Abstract

This paper presents a test of the P-Star model using US quarterly data over the period 1951:1–1991:4. The basic formulation of the P-Star model, which is derived from the quantity theory of money, is manipulated to obtain an equation for the price level in terms of a stochastic trend and the actual levels of output and velocity. The maximum likelihood estimation results verify the validity of the model and the importance of the stochastic trend. The dynamic relationship between the inflation rate and the price gap is also estimated, producing a large and significant value for the coefficient of adjustment.