Credit and the Natural Rate of Interest
49 Pages Posted: 13 May 2008
Date Written: April 2008
Abstract
We analyze the properties of the natural rate of interest in an economy where nominal debt contracts generate a spread between loan rates and the policy interest rate. In our model, monetary policy has real effect in the flexible-price equilibrium, because it affects the credit spread. Relying on a definition suitable for this environment, we demonstrate that: (i) the natural rate is independent of monetary policy and (ii) it delivers price stability, if used as the intercept of a monetary policy rule. The second result holds exactly if real balances are remunerated at a constant spread below policy interest rates, approximately otherwise. We also highlight, however, that the natural rate is not robust to model uncertainty. The natural rate reacts differently to aggregate shocks - not only quantitatively but also qualitatively - depending on the underlying model assumptions (e.g. whether or not financial markets are frictionless).
Keywords: Monetary policy, natural rate of interest, credit frictions
JEL Classification: E40, E50, G10
Suggested Citation: Suggested Citation
Do you have a job opening that you would like to promote on SSRN?
Recommended Papers
-
Credit Frictions and Optimal Monetary Policy
By Vasco Cúrdia and Michael Woodford
-
Credit Frictions and Optimal Monetary Policy
By Vasco Cúrdia and Michael Woodford
-
Credit Frictions and Optimal Monetary Policy
By Vasco Cúrdia and Michael Woodford
-
Credit Spreads and Monetary Policy
By Vasco Cúrdia and Michael Woodford
-
Credit Spreads and Monetary Policy
By Vasco Cúrdia and Michael Woodford
-
Banking and Interest Rates in Monetary Policy Analysis: A Quantitative Exploration
-
Credit and Banking in a DSGE Model of the Euro Area
By Andrea Gerali, Stefano Neri, ...
-
Credit Effects in the Monetary Mechanism
By Cara S. Lown and Donald P. Morgan
-
Conventional and Unconventional Monetary Policy
By Vasco Cúrdia and Michael Woodford
-
Conventional and Unconventional Monetary Policy
By Vasco Cúrdia and Michael Woodford