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The Fed, the Bond Market, and Gradualism in Monetary Policy

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  • JEREMY C. STEIN
  • ADI SUNDERAM

Abstract

We develop a model of monetary policy with two key features: the central bank has private information about its long‐run target rate and is averse to bond market volatility. In this setting, the central bank gradually impounds changes in its target into the policy rate. Such gradualism represents an attempt to not spook the bond market. However, this effort is partially undone in equilibrium, as markets rationally react more to a given move when the central bank moves more gradually. This time‐consistency problem means that society would be better off if the central bank cared less about the bond market.

Suggested Citation

  • Jeremy C. Stein & Adi Sunderam, 2018. "The Fed, the Bond Market, and Gradualism in Monetary Policy," Journal of Finance, American Finance Association, vol. 73(3), pages 1015-1060, June.
    • Handle: RePEc:bla:jfinan:v:73:y:2018:i:3:p:1015-1060
    DOI: 10.1111/jofi.12614
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