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Monetary Policy, Doubts and Asset Prices

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  • Pierpaolo Benigno

    (LUISS and EIEF)

  • Luigi Paciello

    (EIEF)

Abstract

Asset prices and the equity premium might reflect doubts and pessimism. Introducing these features in an otherwise standard New-Keynesian model changes in a quite substantial way its normative conclusions. First, following productivity shocks, optimal policy should be very accommodative even to the point to inflate the equity premium. Second, asset-price movements improve the inflation-output trade-off so that average output can rise without increasing much average inflation. Finally, a strict inflation-targeting policy is dominated by more flexible inflation targeting policies which increase the comovements between inflation, asset prices and output growth.

Suggested Citation

  • Pierpaolo Benigno & Luigi Paciello, 2010. "Monetary Policy, Doubts and Asset Prices," EIEF Working Papers Series 1024, Einaudi Institute for Economics and Finance (EIEF), revised Sep 2010.
  • Handle: RePEc:eie:wpaper:1024
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    References listed on IDEAS

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    Cited by:

    1. Isoré, Marlène & Szczerbowicz, Urszula, 2017. "Disaster risk and preference shifts in a New Keynesian model," Journal of Economic Dynamics and Control, Elsevier, vol. 79(C), pages 97-125.
    2. Anthony Diercks, 2016. "The Equity Premium, Long-Run Risk, and Optimal Monetary Policy," 2016 Meeting Papers 207, Society for Economic Dynamics.
    3. Benigno, Pierpaolo & Paciello, Luigi, 2014. "Monetary policy, doubts and asset prices," Journal of Monetary Economics, Elsevier, vol. 64(C), pages 85-98.
    4. Masolo, Riccardo M. & Monti, Francesca, 2015. "Monetary policy with ambiguity averse agents," LSE Research Online Documents on Economics 86319, London School of Economics and Political Science, LSE Library.
    5. Vicente da Gama Machado, 2012. "Monetary Policy, Asset Prices and Adaptive Learning," Working Papers Series 274, Central Bank of Brazil, Research Department.
    6. Adam, Klaus & Woodford, Michael, 2012. "Robustly optimal monetary policy in a microfounded New Keynesian model," Journal of Monetary Economics, Elsevier, vol. 59(5), pages 468-487.
    7. Yulei Peng & Anastasia Zervou, 2014. "Monetary Policy Rules and the Equity Premium," Working Papers 20141115_001, Texas A&M University, Department of Economics.
    8. Klaus Adam & Michael Woodford, 2018. "Leaning Against Housing Prices as Robustly Optimal Monetary Policy," CESifo Working Paper Series 7071, CESifo Group Munich.
    9. Brendon, Charles & Ellison, Martin, 2018. "Time-consistently undominated policies," LSE Research Online Documents on Economics 87176, London School of Economics and Political Science, LSE Library.
    10. Frank Hespeler & Marco M. Sorge, 2013. "Does Near-Rationality Matter in First-Order Approximate Solutions? A Perturbation Approach," CSEF Working Papers 339, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy.
    11. Ferrière, Axelle & Karantounias, Anastasios G., 2016. "Fiscal Austerity in Ambiguous Times," FRB Atlanta Working Paper 2016-6, Federal Reserve Bank of Atlanta, revised 01 Jan 2018.
    12. MeiChi Huang & Tzu-Chien Wang, 2015. "Housing-bubble vulnerability and diversification opportunities during housing boom–bust cycles: evidence from decomposition of asset price returns," The Annals of Regional Science, Springer;Western Regional Science Association, vol. 54(2), pages 605-637, March.
    13. Diercks, Anthony M., 2015. "The Equity Premium, Long-Run Risk, & Optimal Monetary Policy," Finance and Economics Discussion Series 2015-87, Board of Governors of the Federal Reserve System (U.S.).

    More about this item

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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