Eyes on the Prize: How Did the Fed Respond to the Stock Market?

35 Pages Posted: 4 Mar 2006

See all articles by Jeffrey C. Fuhrer

Jeffrey C. Fuhrer

Federal Reserve Bank of Boston; Harvard University - Harvard Kennedy School (HKS)

Geoffrey M. B. Tootell

Federal Reserve Banks - Federal Reserve Bank of Boston

Date Written: June 4, 2004

Abstract

The appropriate role for equity prices in monetary policy deliberations has been hotly debated for some time. Recent work suggests that equity prices have affected monetary policy decisions above and beyond their indirect effect on the traditional goal variables of the FOMC. However, the correlation between stock price movements and these other goal variables has made the identification of the equity price effect problematic. Previous studies have used a forecast that embodies a different information set from the one used by the FOMC, which could bias the estimated coefficient on equity prices. The authors show that, in fact, the methods used in the earlier literature fail to adequately disentangle the observational equivalence problem. The authors then show that after controlling for the information that actually enters the FOMC's decision-making process, equity prices have had no independent effect on monetary policy.

Keywords: monetary policy, policy rules, asset prices

JEL Classification: E52, E61

Suggested Citation

Fuhrer, Jeffrey C. and Tootell, Geoffrey M.B., Eyes on the Prize: How Did the Fed Respond to the Stock Market? (June 4, 2004). FRB of Boston Public Policy Discussion Paper No. 04-2, Available at SSRN: https://ssrn.com/abstract=887922 or http://dx.doi.org/10.2139/ssrn.887922

Jeffrey C. Fuhrer (Contact Author)

Federal Reserve Bank of Boston ( email )

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Harvard University - Harvard Kennedy School (HKS) ( email )

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Geoffrey M.B. Tootell

Federal Reserve Banks - Federal Reserve Bank of Boston ( email )

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United States
(617) 973-3430 (Phone)

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