Monetary Policy with Opinionated Markets
- (pp. 2353-92)
Abstract
We build a model in which the Fed and the market disagree about future aggregate demand. The market anticipates monetary policy "mistakes," which affect current demand and induce the Fed to partially accommodate the market's view. The Fed expects to implement its view gradually. Announcements that reveal an unexpected change in the Fed's belief provide a microfoundation for monetary policy shocks. Tantrum shocks arise when the market misinterprets the Fed's belief and overreacts to its announcement. Uncertainty about tantrums motivates further gradualism and communication. Finally, disagreements affect the market's expected inflation and induce a policy trade-off similar to "cost-push" shocks.Citation
Caballero, Ricardo J., and Alp Simsek. 2022. "Monetary Policy with Opinionated Markets." American Economic Review, 112 (7): 2353-92. DOI: 10.1257/aer.20210271Additional Materials
JEL Classification
- D83 Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
- E12 General Aggregative Models: Keynes; Keynesian; Post-Keynesian
- E31 Price Level; Inflation; Deflation
- E43 Interest Rates: Determination, Term Structure, and Effects
- E44 Financial Markets and the Macroeconomy
- E52 Monetary Policy
- E58 Central Banks and Their Policies