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Monetary policy with signal extraction from the bond market

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  • Kristoffer Nimark

Abstract

Monetary policy is conducted in an environment of uncertainty. This paper sets up a model where the central bank uses real-time data from the bond market together with standard macroeconomic indicators to estimate the current state of the economy more efficiently, while taking into account that its own actions influence what it observes. The timeliness of bond market data allows for quicker responses of monetary policy to disturbances compared to the case when the central bank has to rely solely on collected aggregate data. The information content of the term structure creates a link between the bond market and the macroeconomy that is novel to the literature. To quantify the importance of the bond market as a source of information, the model is estimated on data for the United States and Australia using Bayesian methods. The empirical exercise suggests that there is some information in the US term structure that helps the Federal Reserve to identify shocks to the economy on a timely basis. Australian bond prices seem to be less informative than their US counterparts, perhaps because Australia is a relatively small and open economy.

Suggested Citation

  • Kristoffer Nimark, 2008. "Monetary policy with signal extraction from the bond market," Economics Working Papers 1181, Department of Economics and Business, Universitat Pompeu Fabra.
  • Handle: RePEc:upf:upfgen:1181
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Mihaela NICOLAU, 2010. "Financial Markets Interactions between Economic Theory and Practice," Economics and Applied Informatics, "Dunarea de Jos" University of Galati, Faculty of Economics and Business Administration, issue 2, pages 27-36.
    2. repec:eee:dyncon:v:79:y:2017:i:c:p:66-78 is not listed on IDEAS
    3. Vázquez, Jesús & María-Dolores, Ramón & Londoño, Juan-Miguel, 2013. "On the informational role of term structure in the US monetary policy rule," Journal of Economic Dynamics and Control, Elsevier, vol. 37(9), pages 1852-1871.
    4. Kenza Benhima & Céline Poilly, 2017. "Do Misperceptions about Demand Matter? Theory and Evidence," Cahiers de Recherches Economiques du Département d'Econométrie et d'Economie politique (DEEP) 17.08, Université de Lausanne, Faculté des HEC, DEEP.
    5. Refet S. Gürkaynak & Jonathan H. Wright, 2012. "Macroeconomics and the Term Structure," Journal of Economic Literature, American Economic Association, vol. 50(2), pages 331-367, June.
    6. Carboni, Giacomo, 2014. "Term premia implications of macroeconomic regime changes," Working Paper Series 1694, European Central Bank.
    7. Amir-Ahmadi, Pooyan & Matthes, Christian & Wang, Mu-Chun, 2017. "Measurement errors and monetary policy: Then and now," Journal of Economic Dynamics and Control, Elsevier, vol. 79(C), pages 66-78.
    8. Elmar Mertens & Christian Matthes & Thomas Lubik, 2017. "Indeterminacy and Imperfect Information," 2017 Meeting Papers 337, Society for Economic Dynamics.
    9. Roskelley, Kenneth D., 2016. "Augmenting the Taylor rule: Monetary policy and the bond market," Economics Letters, Elsevier, vol. 144(C), pages 64-67.
    10. Alexandros Kontonikas & Charles Nolan & Zivile Zekaite, 2015. "Always and Everywhere Inflation? Treasuries Variance Decomposition and the Impact of Monetary Policy," Working Papers 2015_17, Business School - Economics, University of Glasgow.

    More about this item

    Keywords

    Monetary policy; imperfect information; bond market; term structure of interest rates;

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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