How Do Central Banks React to Wealth Composition and Asset Prices?

Vitor Castro and Ricardo Sousa

No 26/2010, NIPE Working Papers from NIPE - Universidade do Minho

Abstract: We assess the response of monetary policy to developments in asset markets in the Euro Area, the US and the UK. We estimate the reaction of monetary policy to wealth composition and asset prices using: (i) a linear framework based on a fully simultaneous system approach in a Bayesian environment; and (ii) a nonlinear specification that relies on a smooth transition regression model. The linear framework suggests that wealth composition is indeed important in the formulation of monetary policy. However, the attempts of central banks to mitigate undesirable fluctuations in say, financial wealth, may disrupt housing wealth. A similar result can be found when we assess the reaction of monetary authority to asset prices, although concerns about "price" effects are smaller. The nonlinear model confirms these findings. However, the concerns over the wealth and its components are stronger once inflation is under control, i.e. below a certain target. Some disruptions between financial and housing wealth effects are still present. They can also be found in reaction to asset prices, despite being less intense.

Keywords: monetary policy rules; wealth composition; asset prices. (search for similar items in EconPapers)
JEL-codes: E37 E52 (search for similar items in EconPapers)
Date: 2010
New Economics Papers: this item is included in nep-cba, nep-eec, nep-mac and nep-mon
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Citations: View citations in EconPapers (5)

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Related works:
Journal Article: How do central banks react to wealth composition and asset prices? (2012)
Working Paper: How Do Central Banks React to Wealth Composition and Asset Prices? (2010)
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