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Considerations on Interest Rate Exogeneity

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  • Robert Pollin
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    Abstract

    The idea of an exogenous money supply—controlled entirely through centralbank interventions—was a fundamental tenet of monetarism and New Classical economics. Post Keynesians have developed an extensive literature arguing that the money supply is in fact endogenous—that market forces combine with central banks in establishing the money supply.But Post Keynesians disagree on a related question: to what extent are interest rates set exogenously by central banks? To address this issue, this paper presents evidence regarding the movement of market interest rates in U.S. financial markets relative to the Federal Reserve-controlled Federal Funds rate. Concluding that market interest rates are primarily set through market forces—i.e. are largely endogenous—the paper then discusses the primary source of interest rate endogeneity. This is the instability of deregulated financial markets, which leads market participants to make wide swings in their risk assessments over time. It follows that effective regulatory policies to stabilize markets and control interest rates directly will increase the degree of interest rate exogeneity. The paper concludes with proposals for establishing greater control over market interest rates.

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    Bibliographic Info

    Paper provided by Political Economy Research Institute, University of Massachusetts at Amherst in its series Working Papers with number wp177.

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    Date of creation: 2008
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    Handle: RePEc:uma:periwp:wp177

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    1. Robert Pollin & Dean Baker & Marc Schaberg, 2003. "Securities Transaction Taxes for U.S. Financial Markets," Eastern Economic Journal, Eastern Economic Association, vol. 29(4), pages 527-558, Fall.
    2. Davidson, Paul & Weintraub, Sidney, 1973. "Money as Cause and Effect," Economic Journal, Royal Economic Society, vol. 83(332), pages 1117-32, December.
    3. Davidson, Paul, 1972. "Money and the Real World," Economic Journal, Royal Economic Society, vol. 82(325), pages 101-15, March.
    4. Shleifer, Andrei, 2000. "Inefficient Markets: An Introduction to Behavioral Finance," OUP Catalogue, Oxford University Press, number 9780198292272, September.
    5. Giovannini,Alberto (ed.), 2008. "Finance and Development," Cambridge Books, Cambridge University Press, number 9780521057561.
    6. Marc Lavoie, 2005. "Monetary base endogeneity and the new procedures of the asset-based Canadian and American monetary systems," Journal of Post Keynesian Economics, M.E. Sharpe, Inc., vol. 27(4), pages 689-709, July.
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