Monetary Policy and Stock Market Booms

Historical data and model simulations support the following conclusion. Inflation is low during stock market booms, so that an interest rate rule that is too narrowly focused on inflation destabilizes asset markets and the broader economy. Adjustments to the interest rate rule can remove this source...

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Bibliographic Details
Published inIDEAS Working Paper Series from RePEc
Main Authors Ilut, Cosmin L, Christiano, Lawrence J, Motto, Roberto, Rostagno, Massimo
Format Paper
LanguageEnglish
Published St. Louis Federal Reserve Bank of St. Louis 01.01.2010
Subjects
Interest rates
Securities markets
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Summary:Historical data and model simulations support the following conclusion. Inflation is low during stock market booms, so that an interest rate rule that is too narrowly focused on inflation destabilizes asset markets and the broader economy. Adjustments to the interest rate rule can remove this source of welfare-reducing instability. For example, allowing an independent role for credit growth (beyond its role in constructing the inflation forecast) would reduce the volatility of output and asset prices.