We estimate the natural rate of interest (r*) using a semi-structural model of the U.S. economy that jointly characterizes the trend & cyclical factors of key macroeconomic variables such as output, the unemployment rate, in ation, & short- & long-term interest rates. We specify a monetary policy rule & an equation that characterizes the 10-year Treasury yield to exploit the information provided by both interest rates to infer r*. However, the use of a monetary policy rule with a sample that spans the Great Recession & its aftermath poses a challenge because of the effective lower bound. We devise a Bayesian estimation technique that incorporates a Tobit-like specification to deal with the censoring problem. We compare & validate our model specifications using pseudo out-of-sample forecasting exercises & Bayes factors. Our results show that the smoothed value of r* declined sharply around the Great Recession, eventually falling below zero, & has remained negative since then. Our results also indicate that obviating the censoring would imply higher estimates of r* than otherwise.

Keywords: natural rate of interest, natural unemployment rate, output gap, shadow interest rate

DOI: https://doi.org/10.17016/FEDS.2020.085

Full Paper Source:Federal Reserves