Description:

Paul Beaudry (UBC): Monetary policy along the yield curve: Why can central banks affect long-term real rates?

Abstract:  This paper presents theory and evidence to advance the notion that very persistent policy-induced interest rate changes may have only weak effects on activity. This arises when consumption-savings decisions are not primarily driven by intertemporal substitution, but also by life-cycle forces associated with retirement. We show that, within this framework, the impact of highly persistent monetary policy shocks is determined by two forces: an asset valuation effect and the response of the long-run average marginal propensity to consume out of financial wealth. We argue, based on theory and empirics, that these forces likely cancel each other out, allowing monetary policy to (unconsciously) drive trends in long-run real rates. Our findings also suggest that very precise knowledge of r* might not be essential to the successful conduct of monetary policy.