This paper assesses the contribution of monetary policy to bond returns volatility, assuming that the monetary authority controls the short-term nominal interest rate. We model exogenously the joint process for the aggregate endowment and the nominal interest rate, and we determine endogenously bond real returns. We introduce markets segmentation assuming that some households are permanently excluded from ¯nancial markets. With full participation, real returns are determined by the aggregate endow- ment only, so monetary policy can a®ect them only through its e®ect on the aggregate endowment. When markets are segmented, however, monetary policy has a direct liquidity effect on the participants' marginal utility, on the stochastic discount factor, and on real returns. The smaller the fraction of participants in the economy, the larger the impact of monetary policy. When the relative risk aversion parameter is set to values estimated in experimental micro studies, the full participation model cannot replicate bond returns volatility, while the segmented markets model can fully account for the apparent excess volatility of short-term bond returns.
Download Info
To download:
If you experience problems downloading a file, check if you have the
proper application to
view it first. Information about this may be contained
in the File-Format links below. In case of further problems read
the IDEAS help
page. Note that these files are not on the IDEAS
site. Please be patient as the files may be large.
Publisher Info
Paper provided by Rutgers University, Department of Economics in its series Departmental Working Papers with number
200402.
Find related papers by JEL classification: E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
This paper has been announced in the following NEP Reports:
References listed on IDEAS Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.: