Whither Liquidity Shocks? Implications for R∗ and Monetary Policy

Giorgio Massari (), Luca Portoghese () and Patrizio Tirelli
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Giorgio Massari: University of Pavia
Luca Portoghese: University of Pavia

No 217, DEM Working Papers Series from University of Pavia, Department of Economics and Management

Abstract: We show that popular models of (flight-to-) liquidity shocks rely on strongly counterfactual implications for asset returns and the composition of firms’ liabilities, including the return spread between bank deposits and T-bills and the share of bank loans on corporate debt. We also uncover some counterfactual/implausible interpretations of the Fed’s monetary policy stance during recession periods, as hinted by the estimated gap between policy and natural rates. By including the relevant financial variables as observables in our empirical model, we find that liquidity shocks played a negligible role and became virtually irrelevant after 2010. Our estimates also imply that the slowdown in productivity growth, not liquidity shocks, caused the post-2010 fall in the natural rate. Finally, our estimates provide a quite different interpretation of the monetary policy stance.

Keywords: natural rate of interest; DSGE models; liquidity shocks; flight-to-quality; financial frictions (search for similar items in EconPapers)
JEL-codes: C11 C32 C54 E43 E44 (search for similar items in EconPapers)
Pages: 49
Date: 2024-03
New Economics Papers: this item is included in nep-ban, nep-cba, nep-dge and nep-mon
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