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Taylor rule deviations and financial imbalances

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  • George A. Kahn

Abstract

Over the last quarter century, the U.S. economy has faced a number of financial shocks originating in a variety of sectors and locations around the globe. While most of these crises have had little or no effect on the United States, the recent financial crisis caused the worst U.S. recession since the Great Depression. ; The causes of these crises are varied. To some extent, however, a buildup of financial imbalances preceded each crisis. In some cases, asset prices rose to unsustainable levels inconsistent with market fundamentals. In other cases, a buildup of foreign debt precipitated a currency crisis. A key question for policymakers is whether policy actions taken in the period leading up to the crisis leaned against, or contributed to, the building imbalances. ; Kahn explores whether policy actions taken in the period leading up to the recent financial crisis inadvertently exacerbated financial imbalances by keeping policy-controlled interest rates too low for too long. He uses deviations from Taylor rules as indicators of interest rates being held too low and considers a number of indicators of financial imbalances. While there appears to be a statistically significant relationship between Taylor rule deviations and a number of financial indicators, their economic significance is mixed.

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Bibliographic Info

Article provided by Federal Reserve Bank of Kansas City in its journal Economic Review.

Volume (Year): (2010)
Issue (Month): Q II ()
Pages: 63-99

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Handle: RePEc:fip:fedker:y:2010:i:qii:p:63-99:n:v.95no.2

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Cited by:
  1. Christian Hott & Terhi Jokipii, 2012. "Housing Bubbles and Interest Rates," Working Papers 2012-07, Swiss National Bank.
  2. John B. Taylor, 2012. "Monetary Policy Rules Work and Discretion Doesn’t: A Tale of Two Eras," Discussion Papers 11-019, Stanford Institute for Economic Policy Research.
  3. John B. Taylor, 2013. "The Effectiveness of Central Bank Independence Versus Policy Rules," Discussion Papers 12-009, Stanford Institute for Economic Policy Research.
  4. Taylor, John B., 2013. "International monetary coordination and the great deviation," Journal of Policy Modeling, Elsevier, vol. 35(3), pages 463-472.
  5. John B. Taylor, 2014. "The Role of Policy in the Great Recession and the Weak Recovery," American Economic Review, American Economic Association, vol. 104(5), pages 61-66, May.
  6. John Taylor, 2014. "Causes of the Financial Crisis and the Slow Recovery: A 10-Year Perspective," Discussion Papers 13-026, Stanford Institute for Economic Policy Research.
  7. George A. Kahn, 2012. "Estimated rules for monetary policy," Economic Review, Federal Reserve Bank of Kansas City, issue Q IV.
  8. John B. Taylor, 2010. "Commentary: monetary policy after the fall," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 337-348.

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