IS MONETARY POLICY
EFFECTIVE
DURING FINANCIAL CRISES?
by
八宝鸡副词的用法>动力100网站Frederic S. Mishkin*
Graduate School of Business, Columbia University
and
欧若拉歌曲
National Bureau of Economic Rerarch
3022 Broadway, Uris Hall 817
Graduate School of Business
Columbia University
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New York, NY 10027
Phone: 212-854-3488
Fax: 212-662-8474
email: fsm3@columbia.edu
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Draft
December 2008
*The views expresd here are my own and are not necessarily tho of Columbia University or the National Bureau of Economic Rearch.
Since August 2007, the Federal Rerve has ead monetary policy aggressively in the face of the worst financial crisis that the United States has experienced since the Great Depression, lowering the federal funds rate target from 51/4% in September 2007 to 0 to 1/4% in December 2008. Despite the substantial decline in the federal funds rate and interest rates on Treasury curities, the cost of credit to both houholds and business has generally rin. Since September 2007, intere
st rates on riskier debt instruments have rin sharply. Baa corporate bond rates have rin by over 200 basis points (2 percentage points) since September 2007, while interest rates on junk bonds have rin by over 1000 basis points. Banks and other financial intermediaries have also sharply tightened credit standards for both houhold and business.桃英语
The tightening of credit standards and the failure of the cost of credit to houholds and business to fall despite the sharp easing of monetary policy has led to a common view that monetary policy has not been effective during the recent financial crisis. The most recent Nobel laureate, Paul Krugman, has expresd this view in his New York Times column, stating,
“We are already, however, well into the realm of what I call depression economics. By that I mean a state of affairs like that of the 1930s in which the usual tools of monetary policy – above all the Federal Rerve’s ability to pump up the economy by cutting
有关党的知识interest rates – have lost all traction.” (Krugman, 2008).
More importantly, this view has been expresd by some participants in the FOMC as the minutes from the October 28-29, 2008, meeting indicate:
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“Some members were concerned that the effectiveness of cuts in the target federal funds rate may have been diminished by the financial dislocations, suggesting that further
policy action might have limited efficacy in promoting a recovery in economic growth.”
(Board of Governors of the Federal Rerve System 2008).
The views expresd in the above quotes harks back to early Keynesian discussions of the ineffectiveness of monetary policy during the Great Depression period. Becau of the shocks to credit markets from the financial crisis, the argument is that monetary policy is unable to lower the cost of credit and is thus pushing on a string. Monetary policy is therefore ineffective.
I will argue in this paper that this view is just plain wrong. Not only that, the view that monetary policy is ineffective during a financial crisis is highly dangerous becau it leads to the following two conclusions. First, if monetary policy is ineffective, then there is no reason to u it to cope with the crisis. Second, easing monetary policy during a crisis is counterproductive becau it can weaken the credibility of the monetary authorities to keep inflation under control and thus be inflationary. I strongly disagree with both the conclusions and I will argue that, to the contrary, financial cris of the type we have been experiencing provide a strong argument for even more aggressive monetary
policy easing than normal.
I. Financial Instability and Macroeconomic Risk
The financial system performs the function of efficiently channeling funds to individuals or corporations with worthy investment opportunities by collecting and processing information. Although financial markets and institutions deal with large volumes of information,
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some of this information is by nature asymmetric; that is, one party to a financial contract (typically the lender) has less accurate information about the likely distribution of outcomes than does the other party (typically the borrower). Historically, banks and other financial intermediaries have played a major role in reducing the asymmetry of information, partly becau the firms tend to have long-term relationships with their clients
The continuity of this information flow is crucial to the process of price discovery--that is, the ability of market participants to asss the fundamental worth of each financial ast. During periods of financial distress, however, information flows are disrupted and price discovery is impaired. The high
risk spreads and reluctance to purcha asts that are characteristic of such episodes are natural respons to the incread uncertainty resulting from the disruption of information
Two types of risks are particularly important for understanding financial instability. The first is what I will refer to as valuation risk: The market, realizing the complexity of a curity or the opaqueness of its underlying creditworthiness, finds it has trouble asssing the value of the curity. For example, this sort of risk has been central to the repricing of many structured-credit products during the turmoil of the past year, when investors have struggled to understand how potential loss in subprime mortgages might filter through the layers of complexity that such products entail.
The cond type of risk that I consider central to the understanding of financial stability is what I refer to as macroeconomic risk--that is, an increa in the probability that a financial disruption will cau significant deterioration in the real economy. In particular, strains in financial markets can spill over to the broader economy and have adver conquences on
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output and employment. Furthermore, an economic downturn tends to generate even greater uncertainty about ast values, which could initiate an adver feedback loop in which the financial d
isruption restrains economic activity; such a situation could lead to greater uncertainty and incread financial disruption, causing a further deterioration in macroeconomic activity, and so on. This phenomenon is generally referred to as the financial accelerator (Ben Bernanke and Mark Gertler, 1989; Ben Bernanke, Mark Gertler, and Simon Gilchrist, 1996, 1999).
The quality of balance sheets of houholds and firms compri a key element of the financial accelerator mechanism, becau some of the asts of each borrower may rve as collateral for its liabilities. The u of collateral helps mitigate the problem of asymmetric information, becau the borrower’s incentive not to engage in excessive risk-taking is strengthened by the threat of losing the collateral: If a default does occur, the lender can
take title to the borrower’s collateral and thereby recover some or all of the value of the loan. However, a macroeconomic downturn tends to diminish the value of many forms of collateral, thereby exacerbating the impact of frictions in credit markets and reinforcing the propagation
of the adver feedback loop.
II. The Current Financial Crisis
The current financial crisis has many features in common with past financial cris that have occurred throughout history. As in many previous cris, the current crisis has had three precipitating factors: 1) mismanagement of financial innovation, 2) an ast price bubble that
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