Advanced Search
MyIDEAS: Login

Should monetary policy respond to asset price misalignments?

Contents:

Author Info

  • Kontonikas, Alexandros
  • Ioannidis, Christos

Abstract

This paper analyses the relationship between monetary policy and asset prices using a structural rational expectations model that allows for the effect of asset prices on aggregate demand. We assume that asset prices follow a partial adjustment mechanism whereas they are positively affected by past changes, thus allowing for ‘momentum trading’, while at the same time we allow for reversion towards fundamentals. We then conduct stochastic simulations using two alternative monetary policy rules, inflation-forecast targeting and the standard Taylor rule. The results indicate that, under both rules, interest rate setting that takes into account asset price misalignments leads to lower overall macroeconomic volatility, as measured by the postulated loss function of the central bank.

(This abstract was borrowed from another version of this item.)

Download Info

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
File URL: http://www.sciencedirect.com/science/article/B6VB1-4HBB7HX-3/2/1d428a47e1d16d2bf5d8d67e7ee9a878
Download Restriction: Full text for ScienceDirect subscribers only

As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.

Bibliographic Info

Article provided by Elsevier in its journal Economic Modelling.

Volume (Year): 22 (2005)
Issue (Month): 6 (December)
Pages: 1105-1121

as in new window
Handle: RePEc:eee:ecmode:v:22:y:2005:i:6:p:1105-1121

Contact details of provider:
Web page: http://www.elsevier.com/locate/inca/30411

Related research

Keywords:

Other versions of this item:

Find related papers by JEL classification:

References

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
as in new window
  1. Detken, Carsten & Smets, Frank, 2004. "Asset price booms and monetary policy," Working Paper Series 0364, European Central Bank.
  2. Kiyotaki, Nobuhiro & Moore, John, 1997. "Credit Cycles," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 211-48, April.
  3. Ben Bernanke & Mark Gertler, 2000. "Monetary Policy and Asset Price Volatility," NBER Working Papers 7559, National Bureau of Economic Research, Inc.
  4. Athanasios Orphanides & Richard D. Porter & David Reifschneider & Robert Tetlow & Frederico Finan, 1999. "Errors in the measurement of the output gap and the design of monetary policy," Finance and Economics Discussion Series 1999-45, Board of Governors of the Federal Reserve System (U.S.).
  5. Woodford, Michael, 1999. "Optimal Monetary Policy Inertia," Manchester School, University of Manchester, vol. 67(0), pages 1-35, Supplemen.
  6. Glenn D. Rudebusch & Lars E. O. Svensson, 1998. "Policy Rules for Inflation Targeting," NBER Working Papers 6512, National Bureau of Economic Research, Inc.
  7. Nicoletta Batini & Andrew G Haldane, 1999. "Forward-looking rules for monetary policy," Bank of England working papers 91, Bank of England.
  8. Laurence M. Ball, 1999. "Policy Rules for Open Economies," NBER Chapters, in: Monetary Policy Rules, pages 127-156 National Bureau of Economic Research, Inc.
  9. Bennett T. McCallum & Edward Nelson, 2000. "An Optimizing IS-LM Specification for Monetary Policy and Business Cycle Analysis," NBER Working Papers 5875, National Bureau of Economic Research, Inc.
  10. Woodford, Michael, 1999. "Optimal monetary policy inertia," CFS Working Paper Series 1999/09, Center for Financial Studies (CFS).
  11. Canova, Fabio & Nicol , Gianni De, 2000. "Stock Returns, Term Structure, Inflation, And Real Activity: An International Perspective," Macroeconomic Dynamics, Cambridge University Press, vol. 4(03), pages 343-372, September.
  12. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "The science of monetary policy: A new Keynesian perspective," Economics Working Papers 356, Department of Economics and Business, Universitat Pompeu Fabra, revised Apr 1999.
  13. Stephen G. Cecchetti & Anil K Kashyap, 1996. "International Cycles," NBER Working Papers 5310, National Bureau of Economic Research, Inc.
  14. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
  15. Bordo, Michael D & Jeanne, Olivier, 2002. "Boom-Busts in Asset Prices, Economic Instability and Monetary Policy," CEPR Discussion Papers 3398, C.E.P.R. Discussion Papers.
  16. Klein, Paul, 2000. "Using the generalized Schur form to solve a multivariate linear rational expectations model," Journal of Economic Dynamics and Control, Elsevier, vol. 24(10), pages 1405-1423, September.
  17. Narayana R. Kocherlakota, 2000. "Creating business cycles through credit constraints," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Sum, pages 2-10.
  18. Willem Thorbecke, 1998. "On Stock Market Returns and Monetary Policy," Macroeconomics 9812009, EconWPA.
  19. Garber, Peter M, 1990. "Famous First Bubbles," Journal of Economic Perspectives, American Economic Association, vol. 4(2), pages 35-54, Spring.
  20. Bennett T. McCallum, 2001. "Should Monetary Policy Respond Strongly to Output Gaps?," NBER Working Papers 8226, National Bureau of Economic Research, Inc.
  21. Charles Goodhart & Boris Hofmann, 2003. "Deflation, Credit and Asset Prices," Working Papers 132003, Hong Kong Institute for Monetary Research.
  22. Fama, Eugene F, 1981. "Stock Returns, Real Activity, Inflation, and Money," American Economic Review, American Economic Association, vol. 71(4), pages 545-65, September.
  23. Alexandros Kontonikas & Alberto Montagnoli, 2004. "Has Monetary Policy Reacted to Asset Price Movements? Evidence from the UK," Ekonomia, Cyprus Economic Society and University of Cyprus, vol. 7(1), pages 18-33, Summer.
  24. Conover, C. Mitchell & Jensen, Gerald R. & Johnson, Robert R., 1999. "Monetary environments and international stock returns," Journal of Banking & Finance, Elsevier, vol. 23(9), pages 1357-1381, September.
  25. Philip Lowe & Claudio Borio, 2002. "Asset prices, financial and monetary stability: exploring the nexus," BIS Working Papers 114, Bank for International Settlements.
  26. Bennett T. McCallum, 1998. "Solutions to Linear Rational Expectations Models: A Compact Exposition," NBER Technical Working Papers 0232, National Bureau of Economic Research, Inc.
  27. Gilchrist, Simon & Leahy, John V., 2002. "Monetary policy and asset prices," Journal of Monetary Economics, Elsevier, vol. 49(1), pages 75-97, January.
  28. Ben S. Bernanke & Mark Gertler, 2001. "Should Central Banks Respond to Movements in Asset Prices?," American Economic Review, American Economic Association, vol. 91(2), pages 253-257, May.
  29. Charles Goodhart & Boris Hofmann, 2001. "Asset prices, financial conditions and the transmission of monetary policy," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
  30. Goodhart, Charles & Hofmann, Boris, 2000. "Financial Variables and the Conduct of Monetary Policy," Working Paper Series 112, Sveriges Riksbank (Central Bank of Sweden).
Full references (including those not matched with items on IDEAS)

Citations

Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
as in new window

Cited by:
  1. FIodendji, Komlan, 2011. "Should Canadian monetary policy respond to asset prices? Evidence from a structural model," MPRA Paper 28039, University Library of Munich, Germany, revised 10 Jan 2011.
  2. Akram, Q. Farooq & Eitrheim, Øyvind, 2008. "Flexible inflation targeting and financial stability: Is it enough to stabilize inflation and output?," Journal of Banking & Finance, Elsevier, vol. 32(7), pages 1242-1254, July.
  3. Bask, Mikael, 2009. "Monetary Policy, Stock Price Misalignments and Macroeconomic Instability," Working Papers 540, Hanken School of Economics.
  4. Daniel Komlan Fiodendji, 2012. "Should Canadian Monetary Policy Respond to Asset Prices? Evidence from a Structural Model," Working Papers 1209E, University of Ottawa, Department of Economics.
  5. Lengnick, Matthias & Wohltmann, Hans-Werner, 2010. "Agent-based financial markets and New Keynesian macroeconomics: A synthesis," Economics Working Papers 2010,10, Christian-Albrechts-University of Kiel, Department of Economics.
  6. J. Rodrigo Fuentes S. & Marcelo Ochoa C., 2007. "Política Monetaria, Precios de Activos y Estabilidad Financiera: Una Revisión de la Literatura," Notas de Investigación Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, vol. 10(3), pages 115-127, December.
  7. Pierre-Richard Agénor & Luiz A. Pereira da Silva, 2013. "Inflation Targeting and Financial Stability: A Perspective from the Developing World," Working Papers Series 324, Central Bank of Brazil, Research Department.
  8. Alexandros Kontonikas & Alberto Montagnoli & Nicola Spagnolo, 2006. "Stock Returns and Inflation: The Impact of Inflation Targeting," Working Papers 2005_11, Business School - Economics, University of Glasgow.
  9. Romaniuk, Katarzyna, 2006. "What if the Fed increased the weight of the stock price gap in its reaction function?," Journal of Policy Modeling, Elsevier, vol. 28(7), pages 725-737, October.
  10. Pierre-Richard Agénor & Luiz A. Pereira da Silva, 2013. "Macroprudential Regulation and the Monetary Transmission Mechanism," Centre for Growth and Business Cycle Research Discussion Paper Series 185, Economics, The Univeristy of Manchester.
  11. Meixing DAI & Eleftherios SPYROMITROS, 2008. "Monetary policy, asset prices and model uncertainty," Working Papers of BETA 2008-15, Bureau d'Economie Théorique et Appliquée, UDS, Strasbourg.
  12. Ioannidis, Christos & Kontonikas, Alexandros, 2008. "The impact of monetary policy on stock prices," Journal of Policy Modeling, Elsevier, vol. 30(1), pages 33-53.

Lists

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

Statistics

Access and download statistics

Corrections

When requesting a correction, please mention this item's handle: RePEc:eee:ecmode:v:22:y:2005:i:6:p:1105-1121. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Zhang, Lei).

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.