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Martin Ellison
- 4 August 2022
- WORKING PAPER SERIES - No. 2697Details
- Abstract
- The ability of monetary policy to influence the term structure of interest rates and the macroeconomy depends on the extent to which financial market participants prefer to hold bonds of different maturities. We microfound such preferred-habitat demand in a fully-specified dynamic stochastic general equilibrium model of the macroeconomy where the term structure is arbitrage-free. The source of preferred habitat demand is an insurance fund that issues annuities and adopts a liability-driven strategy to minimise the duration risk on its balance sheet. The optimising behaviour of the insurance fund implies a preferred-habitat demand function that is upward-sloping in bond prices and downward-sloping in bond yields, especially when interest rates are low. This supports the operation of a recruitment channel at low interest rates, whereby long-term interest rates react strongly to short-term policy rates because of complementary changes in term premia induced by preferred-habitat demand. The strong reaction extends to inflation and output in general equilibrium, a through-the-looking-glass result that challenges conventional wisdom that preferred habitat weakens the transmission of monetary policy.
- JEL Code
- E43 : Macroeconomics and Monetary Economics→Money and Interest Rates→Interest Rates: Determination, Term Structure, and Effects
E44 : Macroeconomics and Monetary Economics→Money and Interest Rates→Financial Markets and the Macroeconomy
E52 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Monetary Policy
G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
G22 : Financial Economics→Financial Institutions and Services→Insurance, Insurance Companies, Actuarial Studies
- 17 September 2009
- WORKING PAPER SERIES - No. 1092Details
- Abstract
- The assumption of asymmetric and incomplete information in a standard New Keynesian model creates strong incentives for monetary policy transparency. We assume that the central bank has better information about its objectives than the private sector, and that the private sector has better information about shocks than the central bank. Transparency has the potential to trigger a virtuous circle in which all agents find it easier to make inferences and the economy is better stabilised. Our analysis improves upon existing work by endogenising the volatility of both output and inflation. Improved transparency most likely manifests itself in falling output volatility.
- JEL Code
- E32 : Macroeconomics and Monetary Economics→Prices, Business Fluctuations, and Cycles→Business Fluctuations, Cycles
E37 : Macroeconomics and Monetary Economics→Prices, Business Fluctuations, and Cycles→Forecasting and Simulation: Models and Applications
E52 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Monetary Policy
- 1 August 2000
- WORKING PAPER SERIES - No. 28Details
- Abstract
- In this paper we examine the optimal level of central bank activism in a standard model of monetary policy with uncertainty, learning and strategic interactions. We calibrate the model using G7 data and find that the presence of strategic interactions between the central bank and private agents creates an additional motivation for caution in optimal monetary policy. An active policy designed to help learning and reduce future uncertainty creates extra volatility in inflation expectations, which is detrimental to welfare.
- JEL Code
- D81 : Microeconomics→Information, Knowledge, and Uncertainty→Criteria for Decision-Making under Risk and Uncertainty
D83 : Microeconomics→Information, Knowledge, and Uncertainty→Search, Learning, Information and Knowledge, Communication, Belief
D84 : Microeconomics→Information, Knowledge, and Uncertainty→Expectations, Speculations
E52 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Monetary Policy
E58 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Central Banks and Their Policies