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How well does a limited participation model of the monetary transmission mechanism match UK data?

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Shamik Dhar
Stephen P Millard

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Abstract

This paper analyses how well a 'limited participation' model of the monetary transmission mechanism is able to match important aspects of the UK economy. Given that the endogenous monetary policy rule being followed by the monetary authority is not explicitly modelled, the model might not be expected to match the correlations and variances in the data. However, subject to this caveat, the model is able to reproduce the stylised fact that there is little relationship between monetary aggregates and either output or inflation, even though the underlying cause of inflation is money growth. The money-income and money-inflation relationships vary substantially within the model depending on what type of shock is hitting the economy, a strong argument for using structural models of the monetary transmission mechanism in which shocks are identified. The model is also able to capture important features of the monetary transmission mechanism in the United Kingdom, as embodied in the responses of variables to monetary policy shocks.

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Paper provided by Bank of England in its series Bank of England working papers with number 118.

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Handle: RePEc:boe:boeewp:118

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  1. Shamik Dhar & Darren Pain & Ryland Thomas, . "A small structural empirical model of the UK monetary transmission mechanism," Bank of England working papers 113, Bank of England. [Downloadable!]
  2. Christiano, Lawrence J & Eichenbaum, Martin, 1995. "Liquidity Effects, Monetary Policy, and the Business Cycle," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 27(4), pages 1113-36, November. [Downloadable!] (restricted)
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  3. Fuerst, Timothy S., 1992. "Liquidity, loanable funds, and real activity," Journal of Monetary Economics, Elsevier, vol. 29(1), pages 3-24, February. [Downloadable!] (restricted)
  4. Lucas, Robert Jr., 1990. "Liquidity and interest rates," Journal of Economic Theory, Elsevier, vol. 50(2), pages 237-264, April. [Downloadable!] (restricted)
  5. Evans, Charles L. & Marshall, David A., 1998. "Monetary policy and the term structure of nominal interest rates: Evidence and theory," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 49, pages 53-111, December. [Downloadable!] (restricted)
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  6. Shamik Dhar & Stephen P Millard, . "A limited participation model of the monetary transmission mechanism in the United Kingdom," Bank of England working papers 117, Bank of England. [Downloadable!]
  7. King, Robert G & Watson, Mark W, 1996. "Money, Prices, Interest Rates and the Business Cycle," The Review of Economics and Statistics, MIT Press, vol. 78(1), pages 35-53, February. [Downloadable!] (restricted)
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  8. Hendry, S. & Zhang, G., 1998. "Liquidity Effects and Market Frictions," Working Papers 98-11, Bank of Canada. [Downloadable!]
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  9. Lawrence J. Christiano & Martin Eichenbaum & Charles L. Evans, 1998. "Modeling Money," NBER Working Papers 6371, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  10. Lawrence J. Christiano & Martin Eichenbaum, 1992. "Liquidity effects and the monetary transmission mechanism," Staff Report 150, Federal Reserve Bank of Minneapolis. [Downloadable!]
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  1. Andrew Brigden & Jonathan Thomas, . "What does economic theory tell us about labour market tightness?," Bank of England working papers 185, Bank of England. [Downloadable!]
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