The State-Dependent Effects of Monetary Policy

This paper studies state-dependent effects of monetary policy shocks. I first consider state-dependence of policy actions in a simple static model. The model predicts that effectiveness of monetary policy is positively related to the level of output. I next use an estimated DSGE model to quantitatively assess asymmetries in policy transmission mechanism. Consistent with the intuition of the simple model, I find that the effects of monetary policy on output are less powerful in recessions compared to expansions. By contrast, inflation is more sensitive in recessionary states. The latter implies that the aggregate price flexibility is varying across the business cycle. In particular, prices are more flexible when the economy is in a recessionary state. Conversely, prices become more rigid in expansionary states.