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Monetary policy and asset prices: To respond or not?

  • Gunnar Bårdsen

    ()

    (Bank of Norway and Department of Economics, Norwegian University of Science and Technology)

  • Q. Farooq Akram

    (Bank of Norway)

  • Øyvind Eitrheim

    ()

    (Bank of Norway)

We investigate whether there is a case for asset prices in interest rates rules within a small econometric model of the Norwegian economy, modeling the interdependence of the real economy, credit and three classes of assets prices: housing prices, equity prices and the nominal exchange rate. We compare the performance of simple and efficient interest rate rules that allow for response to movements in asset prices to the performance of more standard monetary policy rules. We find that including housing prices and equity prices in the policy rules can improve macroeconomic performance in terms of both nominal and real economic stability. In contrast, a response to nominal exchange rate fluctuations can induce excess volatility in general and prove detrimental to macroeconomic stability.

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File URL: http://www.svt.ntnu.no/iso/WP/2005/7ABER2IJFE.pdf
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Paper provided by Department of Economics, Norwegian University of Science and Technology in its series Working Paper Series with number 5405.

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Length: 26 pages
Date of creation: 15 Sep 2005
Date of revision:
Handle: RePEc:nst:samfok:5405
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  1. Svensson, L.E.O., 1998. "Open-Economy Inflation Targeting," Papers 638, Stockholm - International Economic Studies.
  2. Gunnar Bardsen & Eilev S. Jansen & Ragnar Nymoen, 2003. "Econometric inflation targeting," Econometrics Journal, Royal Economic Society, vol. 6(2), pages 430-461, December.
  3. Orphanides, Athanasios, 2003. "The quest for prosperity without inflation," Journal of Monetary Economics, Elsevier, vol. 50(3), pages 633-663, April.
  4. Charles Bean, 2003. "Asset Prices, Financial Imbalances and Monetary Policy: Are Inflation Targets Enough?," RBA Annual Conference Volume, in: Anthony Richards & Tim Robinson (ed.), Asset Prices and Monetary Policy Reserve Bank of Australia.
  5. Mojon, Benoît & Kashyap, Anil K. & Angeloni, Ignazio & Terlizzese, Daniele, 2002. "Monetary Transmission in the Euro Area : Where Do We Stand?," Working Paper Series 0114, European Central Bank.
  6. Jagjit S. Chadha & Lucio Sarno & Giorgio Valente, 2004. "Monetary Policy Rules, Asset Prices, and Exchange Rates," IMF Staff Papers, Palgrave Macmillan, vol. 51(3), pages 529-552, November.
  7. Stephen G. Cecchetti & Anil K Kashyap, 1995. "International Cycles," NBER Working Papers 5310, National Bureau of Economic Research, Inc.
  8. Michael D. Bordo & Olivier Jeanne, 2002. "Boom-Busts in Asset Prices, Economic Instability, and Monetary Policy," NBER Working Papers 8966, National Bureau of Economic Research, Inc.
  9. Gunnar Bardsen & Eilev S. Jansen & Ragnar Nymoen, 2004. "Econometric Evaluation of the New Keynesian Phillips Curve," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 66(s1), pages 671-686, 09.
  10. Carl Walsh, 2001. "Speed Limit Policies: The Output Gap and Optimal Monetary Policy," CESifo Working Paper Series 609, CESifo Group Munich.
  11. Nicoletta Batini & Andrew G Haldane, 1999. "Forward-looking rules for monetary policy," Bank of England working papers 91, Bank of England.
  12. Rudebusch, Glenn D, 2005. "Assessing the Lucas Critique in Monetary Policy Models," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 37(2), pages 245-72, April.
  13. Gunnar Bårdsen, 2005. "Stylized dynamic model representations - a note," Working Paper Series 6305, Department of Economics, Norwegian University of Science and Technology.
  14. Bardsen, Gunnar & Eitrheim, Oyvind & Jansen, Eilev S. & Nymoen, Ragnar, 2005. "The Econometrics of Macroeconomic Modelling," OUP Catalogue, Oxford University Press, number 9780199246502, March.
  15. Philip Lowe & Claudio Borio, 2002. "Asset prices, financial and monetary stability: exploring the nexus," BIS Working Papers 114, Bank for International Settlements.
  16. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
  17. Akram, Q. Farooq, 2006. "PPP in the medium run: The case of Norway," Journal of Macroeconomics, Elsevier, vol. 28(4), pages 700-719, December.
  18. Angeloni, Ignazio & Ehrmann, Michael, 2003. "Monetary policy transmission in the euro area: any changes after EMU?," Working Paper Series 0240, European Central Bank.
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