A Markov-switching model of inflation: looking at the future during uncertain times

Abstract

In this paper, we analyze the dynamic of inflation in Venezuela, during the last eighteen years, through a Markov-switching estimation of a New Keynesian Phillips curve. Estimation is carried out using the EM algorithm. The model’s estimates distinguish between a “normal or backward looking” regime and a “rational expectation” regime consistent with episodes of high uncertainty regarding the performance of the economy. This characterization of regimes is based on two elements: the description of the process of formation of inflationary expectations and the main economic events occurred during each regime.

JEL classification: C29, E31, D84