Working Paper: CEPR ID: DP7935
Authors: Bernardino Ado; Isabel Correia; Pedro Teles
Abstract: We show that short and long nominal interest rates are independent monetary policy instruments. The pegging of both helps solving the problem of multiplicity that arises when only short rates are used as the instrument of policy. A peg of the nominal returns on assets of different maturities is equivalent to a peg of state-contingent interest rates. These are the rates that should be targeted in order to implement unique equilibria. At the zero bound, while it is still possible to target state-contingent interest rates, that is no longer equivalent to the target of the term structure.
Keywords: long rates; monetary policy; monetary policy instruments; multiplicity of equilibria; short rates; sticky prices; term structure
JEL Codes: E3; E4; E5
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| short and long nominal interest rates (E43) | unique equilibrium (C62) |
| targeting both short and long rates (E43) | solve multiplicity problem (C35) |
| targeting state-contingent interest rates (E43) | unique equilibria at the zero bound (D59) |
| independence of short and long rates (E43) | complicates relationship at the zero bound (E43) |