DOES THE MAGNITUDE OF THE EFFECT OF INFLATION UNCERTAINTY ON OUTPUT GROWTH DEPEND ON THE LEVEL OF INFLATION?

A bivariate Markov regime switching model is employed to verify whether the relationship between inflation and inflation uncertainty, or the negative effects of inflation and inflation uncertainty on output growth, vary with the level of inflation. Inflation and inflation uncertainty are positively correlated in the high-inflation regime. In contrast, in the low-inflation regime, the direct effect of inflation on output growth is insignificant, but the indirect negative effect on growth via inflation uncertainty is highly significant. The negative influence in a high-inflation regime is 2.664 times greater than that in a low-inflation regime. Copyright © 2010 The Authors. Journal compilation © 2010 Blackwell Publishing Ltd and The University of Manchester.