Do nominal rates of interest change with inflation expectations, changes in expected real rates of interest or both?
In general, there is evidence of a potentially greater role played by the real rate of interest in explaining the significantly higher average nominal rates of interest observed during the second sub-sample period.
We did note some inflation rate sensitivity, but, during the period of study, we were unable to find appreciable sensitivity to nominal rates of interest
, perhaps because of the pattern of decreasing inflation was offset somewhat by the increasing real rates that transpired during the period.
1) These liquidity models are something of a growth industry, partly because they are potentially consistent with a monetary equilibrium in which monetary injections drive down nominal rates of interest
and stimulate real activity--stylized facts supported by evidence presented in, for example, Christiano and Eichenbaum