Monetary Policy and Asset Prices: Theory and Evidence

Project: Research

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“Should central banks respond to the asset price movements?” This question is asked not only in the recent “financial Tsunami,” but also in much earlier “normal days.” Among others, Professor Charles Goodhart at the London School of Economics, who is also a central banker at the Bank of England, presents the arguments why the central bank should include asset prices in consideration of monetary policy (Economic Journal, 2001; also House Prices and the Macroeconomy, with B. Hofmann, Oxford University Press). On the other hand, Professor Ben Bernanke at Princeton University argues that central bank should not respond to asset prices in determining the monetary policy (American Economics Review, 2001, with M. Gertler). Interestingly, when Professor Bernanke first took office as the chairman of the Federal Reserve Bank, there have been many discussions in the media and the Wall Street about whether the personnel change would also mean a regime change. Apparently, a substantial number of market participants believe that a change in the monetary policy can have significant impacts on the asset price dynamics, at least in the short run. Furthermore, monetary policy may not affect all asset prices equally. As a result, the relationship among different asset prices, the equity price and housing price in particular, may change with the monetary policy.This project attempts to contribute to the discussion in several ways. First, it attempts to empirically assess whether the monetary policy has an impact on the asset prices (equity, real estate, among others), and if so, how large the effects would be and whether they are uniform across different asset types. Second, it attempts to build a dynamic stochastic general equilibrium (DSGE) model, in which all prices are determined endogenously within the model, and assess the implications of different candidate monetary policies on the social welfare as well as the asset prices.As a result, this project will hopefully deliver more scientific evaluations on the role of monetary policy in the society in light of modern economics analysis, which would be interesting for both academic researchers and useful for policy makers.


Project number9041515
Grant typeGRF
Effective start/end date1/11/0912/07/13