Prices, money and the real economy

Abstract

This thesis examines the effects of output price surprises, energy price surprises, and money surprises on aggregate real economic activity for the years 1948-1988. Three measures of real activity are utilized; the unemployment rate, the log value of output, and the log value of private employment. Both M1 and M2 definitions of money are employed. Model 1 is first developed, which is a replication of Gray and Spencer's 1990 study. From this a reexamination of the empirical role of output price surprises, energy price surprises, and a natural rate measure in determining the level of real aggregate activity is undertaken. Next, Model 2 is developed which includes money surprises along with the various other independent variables in determining real economic activity. Non-linear three stage least squares is the estimation technique employed in estimation of both models. We find that output price surprises are positively and significantly correlated with aggregate real economic activity. Energy price surprises are insignificant in determining real activity. Money surprises, when included with the other explanatory variables, are found to have no direct effect on real activity but operate indirectly through prices. Finally, not much variation in unemployment is explained by the variables of interest.