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Optimal quantitative easing and tightening

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  • Harrison, Richard

    (Bank of England)

Abstract

This paper studies optimal monetary policy in a New Keynesian model with portfolio frictions that create a role for the central bank balance sheet as a policy instrument. Central bank purchases of long‑term government debt (‘quantitative easing’) reduce average portfolio returns, thereby increasing aggregate demand and inflation. Optimal time‑consistent policy prescribes large and rapid asset purchases when the policy rate hits the zero bound. Optimal balance sheet reduction (‘quantitative tightening’) is more gradual. A central bank that pursues a flexible inflation target can achieve similar welfare to optimal policy if quantitative tightening is calibrated appropriately.

Suggested Citation

  • Harrison, Richard, 2024. "Optimal quantitative easing and tightening," Bank of England working papers 1063, Bank of England.
    • Handle: RePEc:boe:boeewp:1063
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    References listed on IDEAS

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    More about this item

    Keywords

    Quantitative easing; quantitative tightening; optimal monetary policy; zero lower bound;
    All these keywords.

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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