Asset Price Bubbles and Central Bank Policies: The Crash of the 'Jackson Hole Consensus'
NEW PERSPECTIVES ON ASSET PRICE BUBBLES: THEORY, EVIDENCE, AND POLICY, Doug Evanoff, George Kaufman and A.G. Malliaris, eds., Oxford University Press, 2012
34 Pages Posted: 14 Oct 2011
Date Written: October, 13 2011
This paper reexamines the main arguments of whether or not monetary policy should respond to asset bubbles. The question of how the central bank should respond to an asset bubble can be reformulated in two ways. First, how does the central bank respond while an asset bubble is growing, and second, how does it respond after the bubble bursts? There has been strong agreement among economists that a central bank should respond to the bursting of a bubble by aggressively decreasing the Fed funds rate to minimize the adverse impact of financial instability on the real economy. However, there is no clear answer to the question of how the central bank should respond to an asset bubble before it bursts. If there is evidence that the asset price bubble is contributing to inflation, then there is general agreement that the central bank should respond. But what if prices remain stable? These issues are critically reviewed and the conclusion is reached that the high costs associated with the 2007–2009 financial crisis have encouraged the development of a new central bank policy paradigm that encourages “leaning against bubbles” and giving due consideration to alternative tools other than interest rate policy tools.
Keywords: Asset Bubbles, Financial Crisis, Jackson Hole Consensus, Lean against Bubbles
JEL Classification: E50, E52, E58
Suggested Citation: Suggested Citation