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Are QE and Conventional Monetary Policy Substitutable?

Author

Listed:
  • Eric Sims

    (Notre Dame and NBER)

  • Cynthia Wu

    (Notre Dame and NBER)

Abstract

Yes! We study the substitutability between conventional monetary policy based on the adjustment of a short-term policy interest rate with quantitative easing (QE). We do so in a four-equation New Keynesian model featuring financial frictions that allows QE to be economically relevant. We analytically derive how much QE versus conventional policy is necessary to implement an inflation target. Quantitatively, the observed expansion of the Federal Reserve's balance sheet over the zero lower bound (ZLB) period provides stimulus equivalent to cutting the policy rate to 2 percentage points below zero. This is in line with the decline in the empirical shadow federal funds rate series. Moreover, we show that the amount of QE required to achieve price stability depends on the expected duration of the ZLB.

Suggested Citation

  • Eric Sims & Cynthia Wu, 2020. "Are QE and Conventional Monetary Policy Substitutable?," International Journal of Central Banking, International Journal of Central Banking, vol. 16(1), pages 195-230, February.
    • Handle: RePEc:ijc:ijcjou:y:2020:q:0:a:4
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    More about this item

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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