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Incomplete Credit Markets and Monetary Policy

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  • Azariadis, Costas
  • Bullard, James
  • Singh, Aarti
  • Suda, Jacek

Abstract

We study monetary policy when private credit markets are incomplete. The macroeconomy we study has a large private credit market, in which participant households use non-state contingent nominal contracts (NSCNC). A second, small group of households only uses cash, supplied by the monetary authority, and cannot participate in the credit market. There is an aggregate shock. We find that, despite the substantial heterogeneity, the monetary authority can provide for optimal risk-sharing in the private credit market and thus overcome the NSCNC friction via a counter-cyclical price level rule. The counter-cyclical price level rule is not unique. To pin down a unique monetary policy rule, we consider two secondary goals for the monetary authority, (i) expected inflation targeting and, (ii) nominal GDP targeting. We examine the impact of each of these approaches on the price level rule and other nominal variables in the economy.

Suggested Citation

  • Azariadis, Costas & Bullard, James & Singh, Aarti & Suda, Jacek, 2015. "Incomplete Credit Markets and Monetary Policy," Working Papers 2015-12, University of Sydney, School of Economics, revised Feb 2019.
  • Handle: RePEc:syd:wpaper:2015-12
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    Cited by:

    1. Lasitha R. C. Pathberiya, 2016. "Optimal Monetary Policy at the Zero Lower Bound on Nominal Interest Rates in a Cost Channel Economy," Discussion Papers Series 568, School of Economics, University of Queensland, Australia.
    2. Sheedy, Kevin D., 2017. "Conventional and unconventional monetary policy rules," Journal of Macroeconomics, Elsevier, vol. 54(PA), pages 127-147.
    3. Carlos Garriga & Finn E. Kydland & Roman Šustek, 2016. "Nominal rigidities in debt and product markets," Working Papers 2016-17, Federal Reserve Bank of St. Louis.
    4. James B. Bullard & Aarti Singh, 2017. "Nominal GDP Targeting With Heterogeneous Labor Supply," Working Papers 2017-16, Federal Reserve Bank of St. Louis, revised 16 Jan 2019.
    5. James Bullard & Riccardo DiCecio, 2019. "Optimal Monetary Policy for the Masses," 2019 Meeting Papers 347, Society for Economic Dynamics.

    More about this item

    Keywords

    Monetary policy; incomplete credit markets; non-state contingent nominal contracts; life cycle economies; heterogeneous households; nominal GDP targeting;

    JEL classification:

    • E4 - Macroeconomics and Monetary Economics - - Money and Interest Rates
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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