Jump to ContentJump to Main Navigation
Show Summary Details
More options …

Studies in Nonlinear Dynamics & Econometrics

Ed. by Mizrach, Bruce

IMPACT FACTOR 2018: 0.448
5-years IMPACT FACTOR: 0.877

CiteScore 2018: 0.85

SCImago Journal Rank (SJR) 2018: 0.552
Source Normalized Impact per Paper (SNIP) 2018: 0.561

Mathematical Citation Quotient (MCQ) 2017: 0.02

See all formats and pricing
More options …
Volume 22, Issue 5


Can a Taylor rule better explain the Fed’s monetary policy through the 1920s and 1930s? A nonlinear cliometric analysis

Olivier Damette / Fredj Jawadi / Antoine Parent
Published Online: 2018-10-31 | DOI: https://doi.org/10.1515/snde-2017-0107


This paper investigates whether a variant of a Taylor rule applied to historical monetary data of the interwar period is useful to gain a better understanding of the Fed’s conduct of monetary policy over the period 1920–1940. To this end, we considered a standard Taylor rule (using two drivers: output gap and inflation gap) and proxied them differently for robustness. Further, we extended this Taylor rule to a nonlinear framework while enabling its coefficient to be time-varying and to change with regard to the phases in business cycle, in order to better capture any further asymmetry in the data and the structural break induced by the Great Depression. Accordingly, we showed two important findings. First, the linearity hypothesis was rejected, and we found that an On/Off Taylor Rule is appropriate to reproduce the conduct of monetary policy during the interwar period more effectively (the activation of drivers only occurs per regime). Second, unlike Field [Field, A. 2015. “The Taylor Rule in the 1920s.” Working Paper], we validated the use of a Taylor rule to explain the conduct of monetary policy in history more effectively. Consequently, this nonlinear Taylor rule specification provides interesting results for a better understanding of monetary regimes during the interwar period, and offers useful complements to narrative monetary history.

This article offers supplementary material which is provided at the end of the article.

Keywords: monetary cliometrics; monetary policy; nonlinearity; Taylor rules; threshold models

JEL Classification: C20; G10; N12; N22


  • Bae, J., C. Kim, and D. H. Kim. 2012. “The Evolution of the Monetary Policy Regimes in the US.” Empirical Economics 43 (2): 617–649.CrossrefGoogle Scholar

  • Bai, J., and P. Perron. 2003. “Computation and Multiple Structural Change Models.” Journal of Applied Econometrics 18 (1): 1–22.CrossrefGoogle Scholar

  • Bec, F., M. Ben Salem, and F. Collard. 2002. “Asymmetries in Monetary Policy Reaction Function: Evidence for US, French and German Central Banks.” Studies in Nonlinear Dynamics and Econometrics 6: 2.Google Scholar

  • Bernanke, B., and M. Gertler. 1999. “Monetary Policy and Asset Price Volatility.” Federal Reserve Bank of Kansas City Economic Review (Fourth quarter), 18–51.Google Scholar

  • Blake, N., and R. Gordon. 1986. “Appendix B Historical Data.” In The American Business Cycle: Continuity and Change, edited by R. J. Gordon, 781–850. Chicago, IL: University of Chicago Press.Google Scholar

  • Board of Governors of the Federal Reserve System. 1924. Annual Report.Google Scholar

  • Bordo, M. and H. Rockoff. 2013. “Not Just the Great Contraction: Friedman and Schwartz’s ‘A Monetary History of the United States 1867 to 1960’.” American Economic Review: Papers & Proceedings 103 (3): 61–65.CrossrefGoogle Scholar

  • Brüggemann, R. and J. Riedel. 2011. “Nonlinear Interest Rate Reaction Functions for the UK.” Economic Modelling 28: 1174–1185.CrossrefGoogle Scholar

  • Caggiano, G., E. Castelnuovo, O. Damette, A. Parent, and G. Pellegrino. 2017. “Liquidity Traps and Large-Scale Financial Crises.” Journal of Economic Dynamics and Control 81: 99–114.CrossrefGoogle Scholar

  • Caporale, G. M., M. H. Helmi, A. N. Catik, F. M. Ali, and C. Akdeniz. 2017. “Monetary Policy Rules in Emerging Countries: Is there an Augmented Nonlinear Taylor Rule?” Economic Modelling 1–14.Google Scholar

  • Castro, V. 2011. “Can Central Banks’ Monetary Policy be Described by a Linear (Augmented) Taylor Rule or by a Nonlinear Rule?” Journal of Financial Stability 7 (4): 228–246.CrossrefGoogle Scholar

  • Cecchetti, S., P. Hooper, B. Kasman, K. Schoenholtz, and M. Watson. 2007. “Understanding the Evolving Inflation Process.” US Monetary Policy Forum Conference paper.Google Scholar

  • Clarida, R., J. Gali, and M. Gertler. 2000. “Monetary Policy Rules and Macroeconomic Stability: Evidence and Some Theory.” Quarterly Journal of Economics 115(1): 147–180.CrossrefGoogle Scholar

  • Clarida, R., J. Gali, and M. Gertler. 2001. “Optimal Monetary Policy in Open Versus Closed Economics: An Integrated Approach.” American Economic Review Papers and Proceedings 91: 248–252.CrossrefGoogle Scholar

  • Cogley, T. 1999. “Monetary Policy and the Great Crash of 1929: A Bursting Bubble or Collapsing Fundamentals?” Federal Reserve Bank of San Francisco Economic Letter 10: March 26.Google Scholar

  • Damette, O., and A. Parent. 2016. “Did the Fed Follow an Implicit McCallum Rule during the Great Depression?” Economic Modelling 52: 226–232.CrossrefGoogle Scholar

  • Damette, O., and A. Parent. 2018. “Did the Fed Respond to Liquidity Shortage Episodes during the Great Depression.” Macroeconomic Dynamics 22: 1727–1749. DOI: .CrossrefGoogle Scholar

  • Field, A. 2015. “The Taylor Rule in the 1920s.” Working Paper.Google Scholar

  • Fishback, P. 2010. “US Monetary and Fiscal Policy in the 1930s.” Oxford Review of Economic Policy 26(3): 385–413.CrossrefGoogle Scholar

  • Friedman, M., and A. Schwartz. 1963. A Monetary History of the United States, 1867–1960. Princeton, NY: Princeton University Press.Google Scholar

  • Friedman, M. 1964. “Monetary Studies of the National Bureau, the National Bureau Enters Its 45th Year.” 44th Annual Report, New York, 7–25.Google Scholar

  • Granger, C. W. J., and Teräsvirta, T. 1993. Modelling Nonlinear Economic Relationships. Oxford: Oxford University Press.Google Scholar

  • Hamilton, J. D. 1989. “A New Approach to the Economic Analysis of Nonstationary Time Series and the Business Cycle.” Econometrica 57: 357–384.CrossrefGoogle Scholar

  • Hamilton, J. 2017. “Why You Should Never Use the Hodrick-Prescott Filter.” NBER Working Paper No. 23429, May.Google Scholar

  • Hansen, B. E. 1997. “Inference in TAR Models.” Studies in Nonlinear Dynamics and Econometrics 2: 1–14.Google Scholar

  • Hansen, B. E. 1999. “Testing for linearity.” Journal of Economic Surveys 13: 551–576.CrossrefGoogle Scholar

  • Hsieh, C. T., and C. Romer. 2006. “Was the Fed Constrained by the Gold Standard during the Great Depression? Evidence from the 1932 Open Market Purchase Program.” The Journal of Economic History 66 (1): 140–176.Google Scholar

  • Jawadi, F., and G. et Prat. 2012. “Arbitrage Costs and Nonlinear Stock Price Adjustment in the G7 Countries.” Applied Economics 44(12): 1561–1582.CrossrefGoogle Scholar

  • Jawadi, F., R. Sousa, and S. Mallick. 2013. “Nonlinear Monetary Policy Reaction Functions in Large Emerging Economies: The Case of Brazil and China.” Applied Economics 46 (9): 973–984.Google Scholar

  • Luukkonen, R., P. Saikkonen, and T. Teräsvirta. 1988. “Testing Linearity against Smooth Transition Autoregressive models.” Biometrika 75 (3): 491–499.CrossrefGoogle Scholar

  • Martin, C., and C. Milas. 2004. “Modelling Monetary Policy: Inflation Targeting in Practice.” Economica, London School of Economics and Political Science 71(281): 209–221.Google Scholar

  • Martin, C., and C. Milas. 2013. “Financial Crises and Monetary Policy: Evidence from the UK.” Journal of Financial Stability 9 (4): 654–661.CrossrefGoogle Scholar

  • McCallum, B. T. 1988. “Robustness Properties of a Rule for Monetary Policy.” Carnegie-Rochester Conference Series on Public Policy 29(Autumn): 173–203.CrossrefGoogle Scholar

  • Meltzer, A. H. 2003. A History of the Federal Reserve, vol. I: 1913–1951. Chicago, IL: The University Chicago Press.Google Scholar

  • Meulendyke, Ann-Marie. 1998. “US Monetary Policy and Financial Markets.” Federal Reserve Bank of New-York.Google Scholar

  • Mishkin, F. S. 2007. The Economics of Money, Banking and Financial Markets. 8th ed. Boston: Addison Wesley.Google Scholar

  • Murray, Christian J., Nikolsko-Rzhevskyy Alex, and David H. Papell. 2015. “Markov Switching And The Taylor Principle.” Macroeconomic Dynamics 19 (4): 913–930.CrossrefGoogle Scholar

  • Orphanides, A. 2001. “Monetary Policy Rules Based on Real-Time Data.” American Economic Review 91 (4): 964–985.CrossrefGoogle Scholar

  • Perron, P. 1989. “The Great Crash, the Oil Price Shock and the Unit Root Hypothesis.” Econometrica 57: 1361–1401.CrossrefGoogle Scholar

  • Petersen, K. 2007. “Does the Federal Reserve Follow a Nonlinear Taylor Rule?” University of Connecticut, Department of Economics.Google Scholar

  • Romer, C. D., and D. H. Romer. 2013. “The Most Dangerous Idea in Federal Reserve History: Monetary Policy Doesn’t Matter.” American Economic Review 103 (3): 55–60.CrossrefGoogle Scholar

  • Rotemberg, J. J. 2013. “Shifts in US Federal Reserve Goals and Tactics for Monetary Policy: A Role for Penitence?” Journal of Economic Perspectives 27 (4): 65–86.CrossrefGoogle Scholar

  • Svensson, L. E. O. 1997. “Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets.” NBERWorking Paper No. 5797; European Economic Review.Google Scholar

  • Svensson, L. E. O. 2003. “What Is Wrong with Taylor Rules? Using Judgment in Monetary Policy through Targeting Rules.” Journal of Economic Literature 41: 426–477.CrossrefGoogle Scholar

  • Taylor, J. B. 1998. “An Historical Analysis of Monetary Policy Rules.” NBER WP Series, 6768, October.Google Scholar

  • Taylor, J. B. 1993. “Discretion Versus Policy Rules in Practice.” Carnegie-Rochester Conference Series on Public Policy, 39(November): 195–214.CrossrefGoogle Scholar

  • Taylor, J. 2007. Housing and Monetary Policy. NBER.Google Scholar

  • Taylor, M., and E. Davradakis. 2006. “Interest Rate Setting and Inflation Targeting: Evidence of a Nonlinear Taylor Rule for the United Kingdom.” Studies Nonlinear Dynamics and Econometrics 10 (4): Article 1.Google Scholar

  • Taylor, J., and J. Williams. 2011. “Simple Robust Rules for Monetary Policy, Chapter 15.” In Handbook of Monetary Economics, edited by Benjamin M. Friedman and Michael Woodford, Vol. 3B, 829–860. Amsterdam: North-Holland.Google Scholar

  • Teräsvirta, T. 1994. “Specification, Estimation and Evaluation of Smooth Transition Autoregressive Models.” Journal of the American Statistical Association 89: 208–210.Google Scholar

  • Teräsvirta, T. 1998. “Modeling Relationships with Smooth Transition Regressions.” In Handbook of Applied Economic Statistics, edited by A. Ullah, and D. E. Giles, 507–552. New York, NY: Dekker.Google Scholar

  • Teräsvirta, T., and H. M. Anderson. 1992. “Characterizing nonlinearities in business cycles using smooth transition autoregressive models.” Journal of Applied Econometrics 7: S1194136.Google Scholar

  • Toma, M. 1989. “The Policy Effectiveness of Open Market Operations in the 1920s.” Explorations in Economic History 26: 99–116.CrossrefGoogle Scholar

  • Tsay, R. S. 1986. “Nonlinearity tests for time series.” Biometrika 73: 461–466.CrossrefGoogle Scholar

  • Van Dijk, D., and P. H. Franses. 1999. “Modeling Multiple Regimes in the Business Cycle.” Macroeconomic Dynamics 3: 311–340.CrossrefGoogle Scholar

  • Van Dijk, D., T. Teräsvirta, and P. H. Franses. 2002. “Smooth Transition Autoregressive Models – A Survey of Recent Developments.” Econometric Reviews 21 (1): 1–47.CrossrefGoogle Scholar

  • Williams, J. 2003. “Simple Rules for Monetary Policy.” FRBSF Economic Review 1–12.Google Scholar

  • Williams, J. C. 2010. “Heeding Daedalus: Optimal Inflation and the Zero Lower Bound.” Brookings Papers on Economic Activity 2009: 1–37.Google Scholar

  • Wheelock, D. C. 1989. “The Strategy, Effectiveness and Consistency of Federal Reserve Monetary Policy 1924–1933.” Explorations in Economic History 26 (4): 453–476.CrossrefGoogle Scholar

  • Wheelock, D. C. 1992. “Monetary Policy in the Great Depression: What the Fed did and why.” Federal Reserve Bank of Saint Louis Review, 74 (2): 3–28.Google Scholar

About the article

Published Online: 2018-10-31

Citation Information: Studies in Nonlinear Dynamics & Econometrics, Volume 22, Issue 5, 20170107, ISSN (Online) 1558-3708, DOI: https://doi.org/10.1515/snde-2017-0107.

Export Citation

©2018 Walter de Gruyter GmbH, Berlin/Boston.Get Permission

Supplementary Article Materials

Comments (0)

Please log in or register to comment.
Log in