Download e-book for iPad: Issues in Monetary Policy: The Relationship Between Money by Kent Matthews, Philip M. Booth

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Additional resources for Issues in Monetary Policy: The Relationship Between Money and the Financial Markets

Example text

1 The Maradona theory of interest rates in 2002 Note: The black line represents the bank of England official interest rate. The shaded lines represent the market’s expectations of future interest rates, as calculated in each of the four Inflation Reports published in 2002. the English defenders reacted to what they expected Maradona to do. Because they expected Maradona to move either left or right, he was able to go straight on. Monetary policy works in a similar way. Market interest rates react to what the central bank is expected to do.

2 Note: Persistence in this table is the sum of the coefficients on lagged inflation in a regression of quarterly inflation on a constant and 4 lags. The measure of inflation is RPI before 1976 and RPIX from 1976, seasonally adjusted. Source: ONS and Bank of England calculations. favourable to the operation of those basic forces . . that are the true springs of economic growth. 12 The principle of adopting a strategy that takes into account limits to our knowledge is a sound one. But advocates of a rigid k% rule argue that we should ignore all other sources of information (estimates of the output gap, for example) and allow any shocks to the velocity of money to feed through to activity or the price level.

They headed in a straight line for their goals. How was that possible? Because financial markets did not expect interest rates to remain constant. They expected that rates would move either up or down. Those expectations were sufficient – at times – to stabilise private spending while official interest rates in fact moved very little. 1. It is a ‘porcupine’ chart which shows the Bank’s official interest rate (the repo rate) as the thick black line together with forward interest rate curves at the time of successive Inflation Reports in 2002.

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