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Asset Prices, Financial Fragility, and Central Banking

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Author Info
Eric Tymoigne
Abstract

The paper reviews the current literature on the subject in both the New Consensus and the Post Keynesian framework. It shows that both approaches give to central banks a wrong goal (inflation, distribution, curbing speculation, etc.) and a wrong instrument (interest rate rule). The paper claims that central banks should focus their attention on maintaining financial stability and leave other problems to public institutions better suited for this task. In doing so they should develop new tools of intervention and leave policy interest rates unchanged, close to or at zero percent. Central banks have been created to deal with financial matters (government finance and financial stability) and should stick to this. Central banks, then, have a large amount of improvements to make, both as reformers and as guides for the financial community. Their main instrument should be an analysis of the financial fragility of the financial system and of the different economic sectors. In this context, it is shown that the notion of ÒbubbleÓ does not matter for policy purposes, and that the current regulatory system lacks an institution that is able to deal effectively with solvency crisis.

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Paper provided by Levy Economics Institute, The in its series Economics Working Paper Archive with number wp_456.

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Date of creation: Jun 2006
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Handle: RePEc:lev:wrkpap:wp_456

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    Other versions:
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  17. Marvin Goodfriend, 1998. "Using the term structure of interest rates for monetary policy," Economic Quarterly, Federal Reserve Bank of Richmond, issue Sum, pages 13-30. [Downloadable!]
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  21. David Gruen & Michael Plumb & Andrew Stone, 2003. "How Should Monetary Policy Respond to Asset-price Bubbles?," RBA Annual Conference Volume, in: Anthony Richards & Tim Robinson (ed.), Asset Prices and Monetary Policy Reserve Bank of Australia. [Downloadable!]
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  24. Charles Bean, 2003. "Asset Prices, Financial Imbalances and Monetary Policy: Are Inflation Targets Enough?," RBA Annual Conference Volume, in: Anthony Richards & Tim Robinson (ed.), Asset Prices and Monetary Policy Reserve Bank of Australia. [Downloadable!]
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  25. Jack Guttentag & Richard Herring, 1988. "Prudential supervision to manage systemic vulnerability," Proceedings, Federal Reserve Bank of Chicago, pages 602-633.
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