FCI-star

Ricardo Caballero, Caravello, Tomás and Alp Simsek

No 20362, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: Central banks rely on r*—the neutral interest rate—to assess policy stance. However, monetary policy affects activity through broad financial conditions, not only the short-term rate. We propose FCI*, the neutral level of a financial conditions index consistent with output at potential. Unlike r*, FCI* is insulated from financial fluctuations: when asset prices move, FCI captures their estimated effect on output, leaving FCI* to reflect only what the macroeconomy requires. In U.S. data, r* co-moves with the equity premium; FCI* does not. FCI gaps provide useful real-time guidance on policy stance, especially when financial conditions diverge from the policy rate.

JEL-codes: C32 E43 E44 E52 E58 (search for similar items in EconPapers)
Date: 2025-06
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