The Interplay between Financial Conditions and Monetary Policy Shocks
37 Pages Posted: 17 Oct 2016
Date Written: October 14, 2016
We conduct an empirical study of the interplay between monetary policy and financial conditions shocks. We find that such shocks have a significant and similar impact on the real economy, though with different degrees of persistence, and the systematic fed funds rate response to a financial shock contributes to bringing the economy back towards its trend. However, a binding zero lower bound on policy rates can prevent policymakers from leaning against the wind, with a significant cost in terms of output and investment. We illustrate these conclusions in a retrospective analysis of the U.S. economy over the past 20 years, in which we decompose the realization of economic variables into the contributions of financial, monetary policy, and other shocks.
Keywords: excess bond premium, financial conditions, monetary policy shocks, zero lower bound
JEL Classification: E32, E44, G17
Suggested Citation: Suggested Citation