966
Title: Azerbaijan’s Natural Rate of Interest: Where Are We Now?
Serial number: 02/2026
Author(s): Khazan Bakhshaliyev, Farid Muradzade, Vugar Ahmadov
Language: English
Date: 2026
Abstract: This paper estimates the natural rate of interest (𝑟∗) for the Azerbaijani economy over the period 2005Q1–2026Q1 using the semi-structural state-space model proposed by Holston, Laubach, and Williams (2017). The model is estimated by the Kalman filter, with the signal-to-noise ratios of the unobserved trends obtained by median-unbiased estimation. The natural rate falls from about 8.1 per cent at the start of the reporting window to about 2.9 per cent by 2026Q1. The bulk of this decline occurred in the period characterised by the sharp fall in global energy prices and the exchange-rate correction of 2015. Although global energy prices rose substantially in 2021–2022, the natural rate increased only partially and temporarily. Decomposing 𝑟∗ into trend growth (𝑔) and other determinants (𝑧) attributes almost all of the movement to trend growth; 𝑧 is close to zero throughout. An updated Laubach and Williams (2003) specification, re-estimated on the same data vintage, gives a level 30 to 100 basis points higher but a nearly identical path. Sensitivity analysis with respect to the signal-to-noise ratio of trend growth confirms that the long-term downward trend in the natural rate is robust across alternative parameter choices. Two caveats bound the interpretation. First, the interest-rate semi-elasticity of the output gap is very small. Second, because 𝑧 enters the observation system only through that semi-elasticity, it is weakly identified. Overall, the findings indicate that the equilibrium policy rate consistent with macroeconomic balance has fallen markedly relative to the pre-2015 period. Nevertheless, these estimates of the natural rate should not be treated as an independent or sole indicator of the monetary-policy stance; rather, they should be regarded as an analytical tool that complements other macroeconomic and financial indicators used to assess the stance of monetary policy.
Key words: Kalman filter, natural rate of interest, trend growth, monetary policy rules, natural rate of output.
JEL classification: E01, E2, E43, P44.
