Predictability of future economic growth and the credibility of monetary regimes in Germany, 1870–2003

Abstract

Our study tries to quantify the predictability of economic growth and links it to the capability of regimes to fight against inflation. A regime with a high persistence of inflation and, hence, low credibility exhibits a high level of predictability of economic growth using the yield curve as indicator. Based on structural VAR models, we evaluate the credibility of monetary regimes in Germany from 1870 to 2003. The period of the Classical Gold Standard exhibited the highest credibility compared to the interwar period, the Bretton Woods and free float era. The reliability of the Bretton Woods agreement deteriorated years before the official breakdown in 1971.

Notes

¹ Peel and Ioannidis (2003) argued in a similar manner–but they focused on a monetary policy reaction function. They stressed that the relation between economic growth and spreads disappear when central banks focus solely on inflation targeting.

² Donner (1934) collected interest rates for the pre-World War I period.

³ Quarterly GDP estimates and long-term government bond yields are available since 1963, but 3-months treasury bills data provided by the IMF were not reported before 1975.

⁴ Cross-correlograms or regressing the basic model with different numbers of lags and comparing the models using information criteria can confirm this specification.

⁵ Hence, we follow Ang et al . (2004) that applied VAR models and Cecchetti and Ehrmann (1999)–but due to data availability our structural VAR model has only two endogenous time series.

⁶ An AR(1) model is the best ARMA specification for economic growth rates based on ACF and PACF plots as well as information criteria.