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Monetary policy and the behavior of long-term interest rates

Author

Listed:
  • Jeff Fuhrer
  • George Moore

Abstract

Real output is strongly correlated with the short-term nominal rate of interest. However, standard models of aggregate demand suggest that real output should be correlated with an expected long-term real rate of interest. We argue that the observed output-nominal rate correlation is an artifact of monetary policy. The systematic behavior of monetary policy, in combination with sluggish inflation adjustment and a structural IS curve that relates output to the rationally expected long-term real rate of interest, has made the sample path of the long-term real rate look like the short-term nominal rate. Thus the statistical correlation between the nominal rate and output arises in the interaction of monetary policy with the rest of the macroeconomy; it is not a structural relationship that policy is free to exploit.

Suggested Citation

  • Jeff Fuhrer & George Moore, 1993. "Monetary policy and the behavior of long-term interest rates," Working Papers in Applied Economic Theory 93-05, Federal Reserve Bank of San Francisco.
  • Handle: RePEc:fip:fedfap:93-05
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    Cited by:

    1. John B. Taylor, 1994. "The inflation/output variability trade-off revisited," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, vol. 38, pages 21-24.
    2. MichaƂ Brzoza-Brzezina, 2002. "Estimating the Natural Rate of Interest: A SVAR Approach," NBP Working Papers 27, Narodowy Bank Polski, Economic Research Department.
    3. Bennett T. McCallum, 2005. "Monetary policy and the term structure of interest rates," Economic Quarterly, Federal Reserve Bank of Richmond, issue Fall, pages 1-21.

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