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Monetary Policy and Market Interest Rates

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Author Info

  • Ellingsen, Tore

    ()
    (Dept. of Economics, Stockholm School of Economics)

  • Söderström, Ulf

    ()
    (Research Department, Sveriges Riksbank)

Abstract

We investigate, theoretically and empirically, the relationship between monetary policy and the term structure of interest rates. In particular, we show in a dynamic macroeconomic model that if monetary policy reveals information about economic developments, interest rates of all maturities move in the same direction in response to a policy innovation. If, on the other hand, monetary policy reveals information about the central bank's policy preferences, short and long interest rates move in opposite directions. In the empirical section, we provide direct measures of endogenous and exogenous monetary policy innovations in the U.S. by analyzing the reaction of financial market participants to Federal Reserve policy moves. The empirical findings support the theoretical predictions.

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Bibliographic Info

Paper provided by Stockholm School of Economics in its series Working Paper Series in Economics and Finance with number 242.

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Length: 47 pages
Date of creation: 28 May 1998
Date of revision: 08 Mar 1999
Publication status: Published in American Economic Review, 2001, pages 1594-1607.
Handle: RePEc:hhs:hastef:0242

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Postal: The Economic Research Institute, Stockholm School of Economics, P.O. Box 6501, 113 83 Stockholm, Sweden
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Keywords: monetary policy; term structure of interest rates; event studies; central bank private information;

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References

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  1. Blanchard, Olivier Jean & Kahn, Charles M, 1980. "The Solution of Linear Difference Models under Rational Expectations," Econometrica, Econometric Society, Econometric Society, vol. 48(5), pages 1305-11, July.
  2. Bennett T. McCallum & Edward Nelson, 1997. "An Optimizing IS-LM Specification for Monetary Policy and Business Cycle Analysis," NBER Working Papers 5875, National Bureau of Economic Research, Inc.
  3. Glenn D. Rudebusch & Lars E. O. Svensson, 1998. "Policy rules for inflation targeting," Proceedings, Federal Reserve Bank of San Francisco, Federal Reserve Bank of San Francisco, issue Mar.
  4. Richard Clarida & Jordi Gali & Mark Gertler, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," NBER Working Papers 7147, National Bureau of Economic Research, Inc.
  5. Backus, David & Driffill, John, 1986. "The Consistency of Optimal Policy in Stochastic Rational Expectations Models," CEPR Discussion Papers, C.E.P.R. Discussion Papers 124, C.E.P.R. Discussion Papers.
  6. Ball, Laurence, 1999. "Efficient Rules for Monetary Policy," International Finance, Wiley Blackwell, Wiley Blackwell, vol. 2(1), pages 63-83, April.
  7. Svensson, L-E-O, 1997. "Inflation Targeting : Some Extensions," Papers, Stockholm - International Economic Studies 625, Stockholm - International Economic Studies.
  8. Ric Battellino & John Broadbent & Philip Lowe, 1997. "The Implementation of Monetary Policy in Australia," RBA Research Discussion Papers, Reserve Bank of Australia rdp9703, Reserve Bank of Australia.
  9. David H. Romer & Christina D. Romer, 2000. "Federal Reserve Information and the Behavior of Interest Rates," American Economic Review, American Economic Association, American Economic Association, vol. 90(3), pages 429-457, June.
  10. Bennett T. McCallum, 1994. "Monetary Policy and the Term Structure of Interest Rates," NBER Working Papers 4938, National Bureau of Economic Research, Inc.
  11. N. Gregory Mankiw & Jeffrey A. Miron, 1985. "The Changing Behavior of the Term Structure of Interest Rates," NBER Working Papers 1669, National Bureau of Economic Research, Inc.
  12. Soderlind, Paul, 1999. "Solution and estimation of RE macromodels with optimal policy," European Economic Review, Elsevier, Elsevier, vol. 43(4-6), pages 813-823, April.
  13. Julio Rotemberg & Michael Woodford, 1997. "An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy," NBER Chapters, National Bureau of Economic Research, Inc, in: NBER Macroeconomics Annual 1997, Volume 12, pages 297-361 National Bureau of Economic Research, Inc.
  14. Yash P. Mehra, 1996. "Monetary policy and long-term interest rates," Economic Quarterly, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue Sum, pages 27-49.
  15. Blinder, Alan S, 1997. "Is There a Core of Practical Macroeconomics That We Should All Believe?," American Economic Review, American Economic Association, American Economic Association, vol. 87(2), pages 240-43, May.
  16. Ben S. Bernanke & Mark Gertler, 1995. "Inside the Black Box: The Credit Channel of Monetary Policy Transmission," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 9(4), pages 27-48, Fall.
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