Monetary policy and financial stability in the long run: A simple game-theoretic approach
Jin Cao and
Journal of Financial Stability, 2017, vol. 28, issue C, 125-142
Many theoretical central bank models use short horizons and focus on a single tradeoff. However, in reality, central banks play complex, long-horizon games and face more than one tradeoff. We account for these strategic interactions in a simple infinite-horizon game with a novel tradeoff: tighter monetary policy deters financial imbalances, but looser monetary policy reduces the likelihood of insolvency. We term these factors discipline and stability effects, respectively. The central bank's welfare decreases with dependence between real and financial shocks, so it may reduce costs with correlation-indexed securities. An independent central bank cannot in general attain both low inflation and financial stability.
Keywords: Central banking; Correlation-indexed security; Discipline effect; Stability effect; Strategic interaction (search for similar items in EconPapers)
JEL-codes: E50 G21 G28 (search for similar items in EconPapers)
References: View references in EconPapers View complete reference list from CitEc
Citations: Track citations by RSS feed
Downloads: (external link)
Full text for ScienceDirect subscribers only
This item may be available elsewhere in EconPapers: Search for items with the same title.
Export reference: BibTeX
RIS (EndNote, ProCite, RefMan)
Persistent link: https://EconPapers.repec.org/RePEc:eee:finsta:v:28:y:2017:i:c:p:125-142
Access Statistics for this article
Journal of Financial Stability is currently edited by I. Hasan, W. C. Hunter and G. G. Kaufman
More articles in Journal of Financial Stability from Elsevier
Bibliographic data for series maintained by Dana Niculescu ().