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When Normalizing Monetary Policy, the Order of Operations Matters

Author

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  • Karlye Dilts Stedman
  • Chaitri Gulati

Abstract

As economic conditions in the United States continue to improve, the FOMC may consider normalizing monetary policy. Whether the FOMC reduces the balance sheet before raising the federal funds rate (or vice versa) may affect the shape of the yield curve, with consequences for financial institutions. Drawing lessons from the previous normalization in 2015–19, we conclude that normalizing the balance sheet before raising the funds rate might forestall yield curve inversion and, in turn, support economic stability.

Suggested Citation

  • Karlye Dilts Stedman & Chaitri Gulati, 2021. "When Normalizing Monetary Policy, the Order of Operations Matters," Economic Bulletin, Federal Reserve Bank of Kansas City, issue October 1, pages 1-4, October.
    • Handle: RePEc:fip:fedkeb:93168
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    References listed on IDEAS

    as
    1. Smith, A. Lee & Valcarcel, Victor J., 2023. "The financial market effects of unwinding the Federal Reserve’s balance sheet," Journal of Economic Dynamics and Control, Elsevier, vol. 146(C).
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    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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