Monetary Policy Credibility and the Comovement between Stock Returns and Inflation

Eurilton Araújo

No 449, Working Papers Series from Central Bank of Brazil, Research Department

Abstract: Empirical evidence suggests that the magnitude of the negative comovement between real stock returns and inflation declined during the Great Moderation in the U.S. To understand the role of monetary policy credibility in this change, I study optimal monetary policy under loose commitment in a macroeconomic model in which stock price movements have direct implications for business cycles. In line with the data, a calibration of the model featuring a significant degree of credibility can replicate the weakening of the negative relationship between real stock returns and inflation in the Great Moderation era.

Date: 2016-12
New Economics Papers: this item is included in nep-cba, nep-dge, nep-mac and nep-mon
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