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Macroeconomic and interest rate volatility under alternative monetary operating procedures

Petra Gerlach-Kristen () and Barbara Rudolf ()

No 319, BIS Working Papers from Bank for International Settlements

Abstract: During the financial crisis of 2007/08 the level and volatility of interest rate spreads increased dramatically. This paper examines how the choice of the target interest rate for monetary policy affects the volatility of inflation, the output gap and the yield curve. We consider three monetary policy operating procedures with different target interest rates: a one-month market rate, a three-month market rate and an essentially riskless one-month repo rate. The implementation tool is the one-month repo rate for all three operating procedures. In a highly stylised model, we find that using a money market rate as a target rate generally yields lower variability of the macroeconomic variables. This holds under discretion as well as under commitment both in times of financial calm or turmoil. Whether the one month or three month rate procedure performs best depends on the maturity of the specific rate that enters the IS curve.

Keywords: optimal monetary policy rules; monetary operating procedures; yield curve (search for similar items in EconPapers)
Pages: 41 pages
Date: 2010-09
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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