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Monetary Policy in a Small Economy after Tsunami: A New Consensus on the Horizon?

The last financial crisis significantly changed views concerning the relationship between monetary policy, asset prices and financial stability. We survey the pre-crisis opinions on the appropriate monetary policy reactions to financial market developments and delineate the new consensus which is currently emerging from the lessons taken. The new consensus is an amended model of flexible inflation targeting in which the central bank “should sometimes lean and can clean”. We try to add the small open economy context to the debate and demonstrate that the optimal reactions of monetary policy-makers in small open economies may differ and that sometimes the optimal solution may not even be available due to the policies of the key world central banks acting as price makers. In such instances, second-best policies have to be considered.

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Article provided by Charles University Prague, Faculty of Social Sciences in its journal Finance a uver - Czech Journal of Economics and Finance.

Volume (Year): 61 (2011)
Issue (Month): 1 (January)
Pages: 5-33

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Handle: RePEc:fau:fauart:v:61:y:2011:i:1:p:5-33
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  1. Stephen G. Cecchetti & Hans Genberg & Sushil Wadhwani, 2002. "Asset Prices in a Flexible Inflation Targeting Framework," NBER Working Papers 8970, National Bureau of Economic Research, Inc.
  2. Frait, Jan & Komarek, Lubos, 2006. "Monetary Policy and Asset Prices : What Role for Central Banks in New EU Member States?," The Warwick Economics Research Paper Series (TWERPS) 738, University of Warwick, Department of Economics.
  3. Charles R. Bean & Matthias Paustian & Adrian Penalver & Tim Taylor, 2010. "Monetary policy after the fall," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 267-328.
  4. Bordo, Michael D & Jeanne, Olivier, 2002. "Monetary Policy and Asset Prices: Does 'Benign Neglect' Make Sense?," International Finance, Wiley Blackwell, vol. 5(2), pages 139-64, Summer.
  5. Tobias Adrian & Hyun Song Shin, 2009. "Money, liquidity, and monetary policy," Staff Reports 360, Federal Reserve Bank of New York.
  6. Claudio Borio & Mathias Drehmann, 2009. "Assessing the risk of banking crises - revisited," BIS Quarterly Review, Bank for International Settlements, March.
  7. Gilchrist, Simon & Leahy, John V., 2002. "Monetary policy and asset prices," Journal of Monetary Economics, Elsevier, vol. 49(1), pages 75-97, January.
  8. Shin, Hyun Song & Adrian, Tobias, 2008. "Financial intermediaries, financial stability and monetary policy," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 287-334.
  9. Rüffer, Rasmus & Stracca, Livio, 2006. "What is global excess liquidity, and does it matter?," Working Paper Series 0696, European Central Bank.
  10. Bracke, Thierry & Fidora, Michael, 2008. "Global liquidity glut or global savings glut? A structural VAR approach," Working Paper Series 0911, European Central Bank.
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