Estimating the Indirect Effects of Monetary Policy on Inflation, the Output Gap and Foreign Reserves in Jordan Using the New Keynesian Model

Abstract

This research aims to estimate the indirect effects of Jordanian monetary policy (interest rates on the one-night deposit window) on the following economic variables: inflation, output gap, and foreign reserves. New Keynesian Theory). The model (based on the new Keynesian model) includes four basic equations that explain the changes in the following variables: inflation rates, the output gap, interest rates, and the effective real exchange rate. To estimate the model’s parameters, quarterly data for the Jordanian economy from 2000 to 2019 were used, especially for the mentioned variables. The simultaneous equations methodology and the general differences method (GMM) were used to obtain consistent and unbiased estimated values for the parameters. The study found that the monetary policy followed by the Central Bank of Jordan effectively influences inflation and the output gap, but in a limited way, and its impact on foreign reserves covering the most famous imports was significant.