Asset price misalignments and monetary policy
2012 (English)In: International journal of finance and economics, ISSN 1076-9307, E-ISSN 1099-1158, Vol. 17, no 3, 221-241 p.Article in journal (Refereed) Published
We augment the standard New Keynesian Model for monetary policy design with stock prices in the economy and stock traders who use a mix of fundamental and technical analyses. In contrast with most of previous literature, we argue that the central bank should augment the interest rate rule with a term for stock price misalignments because a determinate and stable rational expectations equilibrium in the economy are then easier to achieve. This equilibrium is stable under least squares learning as well. Another finding is that inertia in monetary policy does not promote macroeconomic stability when technical analysis plays a major role in stock trading. Even worse, if the central bank in its policy only indirectly responds to stock price misalignments via its effect on the inflation rate, a combination of strong inertia in monetary policy and a significant role for technical analysis in stock trading will lead to macroeconomic instability.
Place, publisher, year, edition, pages
2012. Vol. 17, no 3, 221-241 p.
Bubble policy, fundamental analysis, interest rate rule, least squares learning, macroeconomic stability, stock price bubble, Taylor rule, technical analysis
Economics and Business
IdentifiersURN: urn:nbn:se:uu:diva-178563DOI: 10.1002/ijfe.450ISI: 000305001500002OAI: oai:DiVA.org:uu-178563DiVA: diva2:542365