Financial Markets, Monetary Policy and Reference Rates: Assessments in DSGE Framework

Nao Sudou
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Nao Sudou: Bank of Japan
Authors registered in the RePEc Author Service: Nao Sudo

No 12-E-12, Bank of Japan Working Paper Series from Bank of Japan

Abstract: In this paper, we explore the roles played by reference rates in business cycle fluctuations using a medium-scale full-fledged dynamic stochastic general equilibrium (DSGE) model. Our model is an extended model of chained-credit-contract model developed by Hirakata, Sudo, and Ueda (2011) estimated by the Japanese data. In our economy, there are interbank as well as lending markets. Credit spreads determined in the markets are affected by the borrowers' creditworthiness and degree of informational friction in the credit markets. Focusing on the role of reference rates that affects economic decisions through the delivery of information about the nature of economy, we evaluate channels through which the reference rates affects credit spreads and macroeconomic activities. We find that (i) reference rates may mitigate informational friction in the credit markets, leading to a higher investment, output, and inflation, (ii) reference rates may contribute to economic stabilization by providing accurate economic forecast, and (iii) reference rates may bring about unintended consequence of monetary policy implementation by adding a noise to the credit spreads. Our results indicate the importance of reliable reference rates, particularly under the environment where uncertainty prevails, from the perspective of resource allocation, stabilization, and policy implementation.

Keywords: Reference Rates; Credit Spreads; Informational Friction; Signal Extraction; Monetary Policy (search for similar items in EconPapers)
Date: 2012-12-28
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Citations: View citations in EconPapers (3)

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