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The Liquidity Effect and Long-Run Neutrality

  • Ben S. Bernanke
  • Ilian Mihov

The propositions that monetary expansion lowers short-term nominal interest rates (the liquidity effect), and that monetary policy does not have long-run real effects (long-run neutrality), are widely accepted, yet to date the empirical evidence for both is mixed. We reconsider both propositions simultaneously in a structural VAR context, using a model of the market for bank reserves due to Bernanke and Mihov (forthcoming). We find little basis for rejecting either the liquidity effect or long-run neutrality. Our results are robust over the space of admissible model parameter values, and to the use of long-run rather than short-run identifying restrictions.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 6608.

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Date of creation: Jun 1998
Date of revision:
Publication status: published as Carnegie-Rochester Conference Series on Public Policy, Vol. 49, no. 1(December 1998): 149-194.
Handle: RePEc:nbr:nberwo:6608
Note: EFG ME
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  1. Bernanke, Ben S. & Mihov, Ilian, 1995. "Measuring Monetary Policy," Economics Series 10, Institute for Advanced Studies.
  2. Blanchard, Olivier Jean, 1989. "A Traditional Interpretation of Macroeconomic Fluctuations," American Economic Review, American Economic Association, vol. 79(5), pages 1146-64, December.
  3. Lawrence J. Christiano, 1995. "Resolving the liquidity effect: commentary," Proceedings, Federal Reserve Bank of St. Louis, issue May, pages 55-62.
  4. Gali, Jordi, 1992. "How Well Does the IS-LM Model Fit Postwar U.S. Data," The Quarterly Journal of Economics, MIT Press, vol. 107(2), pages 709-38, May.
  5. James A. Clouse, 1994. "Recent developments in discount window policy," Federal Reserve Bulletin, Board of Governors of the Federal Reserve System (U.S.), issue Nov, pages 965-977.
  6. John B. Taylor, 1999. "Monetary Policy Rules," NBER Books, National Bureau of Economic Research, Inc, number tayl99-1, December.
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