Banking and Interest Rates in Monetary Policy Analysis: A Quantitative Exploration

45 Pages Posted: 3 Jul 2007 Last revised: 4 Aug 2010

Marvin Goodfriend

Carnegie Mellon University - David A. Tepper School of Business; National Bureau of Economic Research (NBER)

Bennett T. McCallum

Carnegie Mellon University - David A. Tepper School of Business; National Bureau of Economic Research (NBER)

Date Written: June 2007

Abstract

The paper reconsiders the role of money and banking in monetary policy analysis by including a banking sector and money in an optimizing model otherwise of a standard type. The model is implemented quantitatively, with a calibration based on U.S. data. It is reasonably successful in providing an endogenous explanation for substantial steady-state differentials between the interbank policy rate and (i) the collateralized loan rate, (ii) the uncollateralized loan rate, (iii) the T-bill rate, (iv) the net marginal product of capital, and (v) a pure intertemporal rate. We find a differential of over 3 % pa between (iii) and (iv), thereby contributing to resolution of the equity premium puzzle. Dynamic impulse response functions imply pro-or-counter-cyclical movements in an external finance premium that can be of quantitative significance. In addition, they suggest that a central bank that fails to recognize the distinction between interbank and other short rates could miss its appropriate settings by as much as 4% pa. Also, shocks to banking productivity or collateral effectiveness call for large responses in the policy rate.

Suggested Citation

Goodfriend, Marvin and McCallum, Bennett T., Banking and Interest Rates in Monetary Policy Analysis: A Quantitative Exploration (June 2007). NBER Working Paper No. w13207. Available at SSRN: https://ssrn.com/abstract=997563

Marvin Goodfriend (Contact Author)

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Bennett T. McCallum

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States
412-268-2347 (Phone)
412-268-7357 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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