Risk Appetite and Monetary Transmission

Michael Bauer, Maik Schmeling () and Andreas Schrimpf
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Andreas Schrimpf: https://www.bis.org/author/andreas-schrimpf

No 2026-20, Working Paper Series from Federal Reserve Bank of San Francisco

Abstract: We construct a new high-frequency measure of risk appetite shifts around Federal Open Market Committee (FOMC) meetings, the common component of changes in risk-sensitive indicators. Fed policy actions and communication have substantial effects on risk appetite. Interest-rate surprises explain only about one-fifth of the variation in risk appetite, so most policy-induced changes in risk asset prices are orthogonal to the expected rate path. We therefore use both surprises as external instruments in a proxy SVAR with two separately identified shocks. Risk appetite shocks have large and persistent contractionary effects, lowering output and prices while raising unemployment. By contrast, the effects of risk-free rate shocks tend to be small and imprecisely estimated, and some have puzzling signs. Monetary transmission appears to operate primarily through risk appetite and risk asset prices. Estimates relying on interest-rate surprises alone miss most of these effects, for two reasons: the link from interest rates to risk appetite is state-dependent, and Fed communication moves it independently of the expected rate path.

Keywords: monetary policy shocks; risk appetite; external instruments; proxy SVAR; central bank communication (search for similar items in EconPapers)
JEL-codes: E43 E52 E58 (search for similar items in EconPapers)
Pages: 65
Date: 2026-09-18
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Persistent link: https://EconPapers.repec.org/RePEc:fip:fedfwp:103796

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DOI: 10.24148/wp2026-20

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