In this paper, we augment the Barro-Mishkin quarterly output model with interest rate volatility and test this model for rationality, neutrality, and the distinction for anticipated and unanticipated changes in aggregate demand. The significant role of interest rate volatility indicates that findings from previous studies need to be re-examined with this respecified model. The results reveal that while rationality is maintained, monetary neutrality is rejected. The rejection of zero interest rate volatility effect corroborates previous work by Evans and Tatom. We also find significantly different effects of anticipated and unanticipated variables for money growth. Our findings strengthen Mishkin's empirical results but reverse those of Frydman and Rappoport. The results provide further evidence that demonstrates the importance of interest rate volatility in determining and explaining business fluctuations.
ASJC Scopus subject areas
- Economics and Econometrics