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Conventional and unconventional monetary policy

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  • Vasco Cúrdia
  • Michael Woodford

Abstract

We extend a standard New Keynesian model both to incorporate heterogeneity in spending opportunities along with two sources of (potentially time-varying) credit spreads and to allow a role for the central bank's balance sheet in determining equilibrium. We use the model to investigate the implications of imperfect financial intermediation for familiar monetary policy prescriptions and to consider additional dimensions of central bank policy--variations in the size and composition of the central bank's balance sheet as well as payment of interest on reserves--alongside the traditional question of the proper operating target for an overnight policy rate. We also study the special problems that arise when the zero lower bound for the policy rate is reached. We show that it is possible to provide criteria for the choice of policy along each of these possible dimensions within a single unified framework, and to achieve policy prescriptions that apply equally well regardless of whether financial markets work efficiently or not and regardless of whether the zero bound on nominal interest rates is reached or not.

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Bibliographic Info

Paper provided by Federal Reserve Bank of New York in its series Staff Reports with number 404.

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Date of creation: 2009
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Handle: RePEc:fip:fednsr:404

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Keywords: Banks and banking; Central ; Monetary policy ; Interest rates;

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References

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  1. Rajnish Mehra & Facundo Piguillem & Edward C. Prescott, 2008. "Intermediated quantities and returns," Staff Report 405, Federal Reserve Bank of Minneapolis.
  2. Vasco Cúrdia & Michael Woodford, 2009. "Credit Spreads and Monetary Policy," Discussion Papers 0910-01, Columbia University, Department of Economics.
  3. Michael Woodford, 2007. "Forecast Targeting as a Monetary Policy Strategy: Policy Rules in Practice," NBER Working Papers 13716, National Bureau of Economic Research, Inc.
  4. Vasco Cúrdia & Michael Woodford, 2009. "Credit frictions and optimal monetary policy," BIS Working Papers 278, Bank for International Settlements.
  5. Pierpaolo Benigno & Michael Woodford, 2005. "Inflation Stabilization And Welfare: The Case Of A Distorted Steady State," Journal of the European Economic Association, MIT Press, vol. 3(6), pages 1185-1236, December.
  6. Gertler, Mark & Karadi, Peter, 2011. "A model of unconventional monetary policy," Journal of Monetary Economics, Elsevier, vol. 58(1), pages 17-34, January.
  7. M. H. Khalil Timamy, 2005. "Debate," Review of African Political Economy, Taylor & Francis Journals, vol. 32(104-105), pages 383-393, June.
  8. Rajnish Mehra & Facundo Piguillem & Edward C. Prescott, 2008. "Costly Financial Intermediation in Neoclassical Growth Theory," NBER Working Papers 14351, National Bureau of Economic Research, Inc.
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