Expectations and Output-Inflation Tradeoffs in a Fixed-Exchange-Rate Economy

Abstract

This paper develops and estimates a model of output-inflation tradeoffs (or reverse Phillips curves) for a fixed-exchange-rate economy. The main focus of the analysis is on the role of information and economic agents' expectations in the generation of aggregate economic fluctuations. The model embodies the hypothesis of rational expectations, as well as different versions of the natural-rate hypothesis. These hypotheses, central to the current macroeconomic literature, are formulated and tested. The model is estimated by the full- information-maximum-likelihood method on quarterly data for Italy covering the 1955-70 period.