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Monetary policy and stock market booms

Author

Listed:
  • Lawrence J. Christiano
  • Cosmin Ilut
  • Roberto Motto
  • Massimo Rostagno

Abstract

Historical data and model simulations support the following conclusion: Inflation is low during stock market booms, so an interest rate rule that is too narrowly focused on inflation destabilizes asset markets and the broader economy. Adjustments to the interest rate rule can remove this source of welfare-reducing instability. For example, allowing an independent role for credit growth (beyond its role in constructing the inflation forecast) would reduce the volatility of output and asset prices.

Suggested Citation

  • Lawrence J. Christiano & Cosmin Ilut & Roberto Motto & Massimo Rostagno, 2010. "Monetary policy and stock market booms," FRB Atlanta CQER Working Paper 2010-08, Federal Reserve Bank of Atlanta, revised 2010.
  • Handle: RePEc:fip:fedacq:2010-08
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    File URL: http://www.frbatlanta.org/documents/cqer/publicationscq/cqerwp/cqer_wp10-08.pdf
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    References listed on IDEAS

    as
    1. Barlevy, Gadi, 2014. "A leverage-based model of speculative bubbles," Journal of Economic Theory, Elsevier, vol. 153(C), pages 459-505.
    2. Beverly Hirtle & Til Schuermann & Kevin J. Stiroh, 2009. "Macroprudential supervision of financial institutions: lessons from the SCAP," Staff Reports 409, Federal Reserve Bank of New York.
    3. Paul Beaudry & Franck Portier, 2006. "Stock Prices, News, and Economic Fluctuations," American Economic Review, American Economic Association, vol. 96(4), pages 1293-1307, September.
    4. Beaudry, Paul & Portier, Franck, 2004. "An exploration into Pigou's theory of cycles," Journal of Monetary Economics, Elsevier, vol. 51(6), pages 1183-1216, September.
    5. Robert B. Barsky & Eric R. Sims, 2009. "News Shocks," NBER Working Papers 15312, National Bureau of Economic Research, Inc.
    6. Lawrence J. Christiano & Cosmin Ilut & Roberto Motto & Massimo Rostagno, "undated". "Monetary policy and stock market booms," Proceedings - Economic Policy Symposium - Jackson Hole y:2010:p:85-145, Federal Reserve Bank of Kansas City.
    7. Michelle Alexopoulos, 2007. "Believe it or not! The 1930s was a technologically progressive decade," 2007 Meeting Papers 195, Society for Economic Dynamics.
    8. Mark Gertler & Jordi Gali & Richard Clarida, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Journal of Economic Literature, American Economic Association, vol. 37(4), pages 1661-1707, December.
    9. Robert Barsky, 2010. "News Shocks," 2010 Meeting Papers 95, Society for Economic Dynamics.
    10. Detken, Carsten & Adalid, Ramón, 2007. "Liquidity shocks and asset price boom/bust cycles," Working Paper Series 732, European Central Bank.
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