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Should Monetary Policy Respond To Asset Price Bubbles? Revisiting the Debate

Author

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  • Sushil Wadhwani

    (CEO, Wadhwani Asset Management LLP)

Abstract

Recent events have highlighted the importance of asset prices to central bank decisions . We argue that, in response to asset price bubbles, central banks should `lean against the wind' (LATW hereafter). Even if the bubbles themselves are not significantly affected by LATW, macroeconomic performance can be improved if monetary policy reacts to asset price misalignments over and above the reaction to fixed horizon inflation forecasts. In addition, it might reduce the probability of bubbles arising at all. This article restates the case for LATW, and reviews the debate. In particular I respond to various criticisms that have been made against LATW and briefly consider alternative policies designed to make the financial system less cyclical.

Suggested Citation

  • Sushil Wadhwani, 2008. "Should Monetary Policy Respond To Asset Price Bubbles? Revisiting the Debate," National Institute Economic Review, National Institute of Economic and Social Research, vol. 206(1), pages 25-34, October.
    • Handle: RePEc:sae:niesru:v:206:y:2008:i:1:p:25-34
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    Citations

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    Cited by:

    1. Grydaki, Maria & Bezemer, Dirk, 2013. "The role of credit in the Great Moderation: A multivariate GARCH approach," Journal of Banking & Finance, Elsevier, vol. 37(11), pages 4615-4626.
    2. Paul A Wachtel, 2011. "Central Banking for the 21st Century: An American Perspective," Chapters, in: Ewald Nowotny & Peter Mooslechner & Doris Ritzberger-Grünwald (ed.), Post-Crisis Growth and Integration in Europe, chapter 10, Edward Elgar Publishing.
    3. Andrew Filardo & Hans Genberg, 2010. "Monetary Policy Strategies in the Asia and Pacific Region : What Way Forward?," Finance Working Papers 23011, East Asian Bureau of Economic Research.
    4. Xiaoyu Zhang & Fanghui Pan, 2019. "The Dependence of China’s Monetary Policy Rules on Interest Rate Regimes: Empirical Analysis Based on a Pseudo Output Gap," Sustainability, MDPI, vol. 11(9), pages 1-15, May.
    5. David Cobham, 2012. "The past, present, and future of central banking," Oxford Review of Economic Policy, Oxford University Press and Oxford Review of Economic Policy Limited, vol. 28(4), pages 729-749, WINTER.
    6. Philip Booth, 2017. "Monetary policy, asset prices and financial institutions," Chapters, in: Tim Congdon (ed.), Money in the Great Recession, chapter 8, pages 185-207, Edward Elgar Publishing.
    7. Iana Liadze & Ray Barrell & Professor E. Philip Davis, 2010. "Calibrating macroprudential policy," National Institute of Economic and Social Research (NIESR) Discussion Papers 354, National Institute of Economic and Social Research.
    8. Canuto, Otaviano, 2011. "How Complementary Are Prudential Regulation and Monetary Policy?," World Bank - Economic Premise, The World Bank, issue 60, pages 1-7, June.
    9. repec:ags:aaea07:383 is not listed on IDEAS
    10. Howard Davies, 2009. "Pricking Bubbles in the Wind: Could Central Banks Have Done More to Head Off the Financial Crisis?," Australian Economic Review, The University of Melbourne, Melbourne Institute of Applied Economic and Social Research, vol. 42(4), pages 387-396, December.

    More about this item

    Keywords

    Monetary policy; asset price; bubbles; JEL Classifications: E44 E52 E58 G10;
    All these keywords.

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • 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
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)

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