How should we respond to asset price bubbles?

Frederic Mishkin

Financial Stability Review, 2008, issue 12, 65-74

Abstract: This paper examines how economic policy should respond to possible asset price bubbles. Three questions are considered: • Are some asset price bubbles more problematic than others? • How should monetary policy respond to asset price bubbles? • What other types of policy responses are appropriate? I conclude that asset price bubbles associated with credit booms present particular challenges because their bursting can lead to episodes of financial instability that have damaging effects on the economy. Monetary policy should not react to asset price bubbles per se, but rather to changes in the outlook for inflation and aggregate demand resulting from asset price movements. However, regulatory policies and supervisory practices should respond to possible asset price bubbles and help prevent feedback loops between asset price bubbles and credit provision, thereby minimising the damaging effects of bubbles on the economy.

Date: 2008
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