A game-theoretic foundation for the fiscal theory of the price level Staff working papers set out research in progress by our staff, with the aim of encouraging comments and debate.

Staff Working Paper 1137 by Tim Willems (BoE) and Thomas Norman (Oxford) examines the importance of fiscal-monetary interactions for inflation outcomes via a game-theoretic approach. 🔗 Read the paper here: www.bankofengland.co.uk/working-pape...

Food for thought!

"Monetary policy along the yield curve: why can central banks affect long-term real rates?" by Paul Beaudry, Paolo Cavallino, and Tim Willems.

www.bankofengland.co.uk/working-pape...

Monetary policy along the yield curve: why can central banks affect long-term real rates? Staff working papers set out research in progress by our staff, with the aim of encouraging comments and debate.

Here’s the link to our new paper: www.bankofengland.co.uk/working-pape...

It is a heavily revised version of our earlier WP on the topic: www.nber.org/papers/w32511
[7/7]

Since the potency of monetary policy is decreasing in the persistence with which it is conducted, FLANK also implies that monetary policy is not the right tool to offset very persistent demand shocks (Forward Guidance can be counterproductive in FLANK) [6/7]

FLANK also suggests that r*-estimates of the Laubach-Williams type are biased. In particular they (a) end up partly reflecting the CB’s own prior belief (the aforementioned self-fulfilling aspect) and (b) show excessive co-movement with the policy rate [5/7]

For very persistent rate changes, the net effect is ≈0. Consequently, the v long-term real rate (aka r*) is not firmly pinned down in FLANK. The system becomes very forgiving to a central bank working with a biased view of r*. This gives a central bank's beliefs on r* a self-fulfilling flavor [4/7]

While intertemporal substitution and asset valuation work in the conventional direction (r↓ → c↑), the asset demand channel is dissonant: r↓ → negative interest income effect, making households want to save more as r↓ (as each unit of saving now grows less over time) [3/7]

Our paper builds a FLANK (Finitely-Lived Agent New Keynesian) model, featuring 3 channels via which interest rates affect consumption: intertemporal substitution, asset valuation, and asset demand (driven by a need to save for retirement) [2/7]

In my 1st BS(?) post, I’m happy to tell you about a new paper with Paul Beaudry & Paolo Cavallino. In it, we argue that monetary policy may be driving secular trends in real interest rates because very persistent rate changes have only weak effects on activity [1/7]