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A Note on Money and the Conduct of Monetary Policy

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  • Jagjit S. Chadha

    ()
    (Department of Economics, University of Kent)

  • Luisa Corrado

    ()
    (University of Rome "Tor Vergata", CIMF and CReMic)

  • Sean Holly

    ()
    (University of Cambridge)

Abstract

Prior to the financial crisis mainstream monetary policy practice had become disconnected from money. We outline the basic rationale for this development using a simple model of money and credit in which we explore the conditions under which money matters directly for the conduct of policy. Then, drawing on Goodfriend and McCallum's (2007) DSGE model, we examine the circumstances under which money becomes more closely linked to inflation. We ?nd that money matters when the variance of the supply of lending dominates productivity and the velocity of money demand. This is because amplifying the role of loans supply leads to an expansion in aggregate demand, via a compression of the external ?nance premium, which is in?ationary. We consider a number of alternative monetary policy rules, and ?nd that a rule which exploits the joint information from money and the external finance premium performs best.

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Bibliographic Info

Paper provided by Tor Vergata University, CEIS in its series CEIS Research Paper with number 279.

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Length: 35 pages
Date of creation: 13 May 2013
Date of revision: 13 May 2013
Handle: RePEc:rtv:ceisrp:279

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Postal: CEIS - Centre for Economic and International Studies - Faculty of Economics - University of Rome "Tor Vergata" - Via Columbia, 2 00133 Roma
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Postal: CEIS - Centre for Economic and International Studies - Faculty of Economics - University of Rome "Tor Vergata" - Via Columbia, 2 00133 Roma
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Web: http://www.ceistorvergata.it

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Keywords: money; DSGE; policy rules; external finance premium.;

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  1. Chari, V V & Christiano, Lawrence J & Eichenbaum, Martin, 1995. "Inside Money, Outside Money, and Short-Term Interest Rates," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 27(4), pages 1354-86, November.
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  4. Samuel Reynard, 2007. "Maintaining Low Inflation: Money, Interest Rates, and Policy Stance," Working Papers 2007-05, Swiss National Bank.
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  6. Chiu, Jonathan & Meh, Césaire A., 2011. "Financial Intermediation, Liquidity, And Inflation," Macroeconomic Dynamics, Cambridge University Press, Cambridge University Press, vol. 15(S1), pages 83-118, April.
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  8. William Poole, 1970. "Optimal choice of monetary policy instruments in a simple stochastic macro model," Staff Studies, Board of Governors of the Federal Reserve System (U.S.) 57, Board of Governors of the Federal Reserve System (U.S.).
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  17. Chadha, J.S. & Corrado, L. & Sun, Q., 2008. "Money, Prices and Liquidity Effects: Separating Demand from Supply," Cambridge Working Papers in Economics, Faculty of Economics, University of Cambridge 0855, Faculty of Economics, University of Cambridge.
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Cited by:
  1. Jagjit S. Chadha & Germana Corrado & Luisa Corrado, 2013. "Stabilisation Policy in a Model of Consumption, Housing Collateral and Bank Lending," Studies in Economics, Department of Economics, University of Kent 1316, Department of Economics, University of Kent.
  2. Jagjit S. Chadha & Philip Turner & Fabrizio Zampolli, 2013. "The Ties that Bind: Monetary Policy and Government Debt Management," Studies in Economics, Department of Economics, University of Kent 1318, Department of Economics, University of Kent.

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