Should monetary policy lean against the wind? An analysis based on a DSGE model with banking

Leonardo Gambacorta and Federico Signoretti

No 921, Temi di discussione (Economic working papers) from Bank of Italy, Economic Research and International Relations Area

Abstract: The global financial crisis has reaffirmed the importance of financial factors for macroeconomic fluctuations. Recent work has shown how the conventional pre-crisis prescription that monetary policy should pay no attention to financial variables over and above their effects on inflation may no longer be valid in models that consider frictions in financial intermediation (C�rdia and Woodford, 2009). This paper analyzes whether Taylor rules augmented with asset prices and credit can improve upon a standard rule in terms of macroeconomic stabilization in a DSGE with both a firms' balance-sheet channel and a bank-lending channel and in which the spread between lending and policy rates endogenously depends on banks' leverage. The main result is that, even in a model in which financial stability does not represent a distinctive policy objective, leaning-against-the-wind policies are desirable in the case of supply-side shocks whenever the central bank is concerned with output stabilization, while both strict inflation targeting and a standard rule are less effective. The gains are amplified if the economy is characterized by high private sector indebtedness.

Keywords: DSGE; monetary policy; asset prices; credit channel; Taylor rule; leaning-against-the-wind (search for similar items in EconPapers)
JEL-codes: E30 E44 E50 (search for similar items in EconPapers)
Date: 2013-07
New Economics Papers: this item is included in nep-ban, nep-cba, nep-dge, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (10)

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Related works:
Journal Article: Should monetary policy lean against the wind? (2014)
Working Paper: Should monetary policy lean against the wind? - an analysis based on a DSGE model with banking (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:bdi:wptemi:td_921_13

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