Working Paper: CEPR ID: DP9824
Authors: Mark Gertler; Peter Karadi
Abstract: We provide evidence on the nature of the monetary policy transmission mechanism. To identify policy shocks in a setting with both economic and financial variables, we combine traditional monetary vector autoregression (VAR) analysis with high frequency identification (HFI) of monetary policy shocks. We first show that the shocks identified using HFI surprises as external instruments produce responses in output and inflation consistent with those obtained in the standard monetary VAR analysis. We also find, however, that monetary policy responses typically produce ?modest? movements in short rates that lead to ?large? movements in credit costs and economic activity. The large movements in credit costs are mainly due to the reaction of both term premia and credit spreads that are typically absent from the baseline model of monetary transmission. Finally, we show that forward guidance is important to the overall strength of policy transmission.
Keywords: credit spread; external instrument; forward guidance; high frequency identification; monetary policy transmission; structural VAR; term premium
JEL Codes: E43; E44; E52
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| monetary policy responses (E52) | credit costs (G21) |
| monetary policy responses (E52) | economic activity (E20) |
| unanticipated monetary tightening (E49) | output (C67) |
| unanticipated monetary tightening (E49) | price level (E30) |
| unanticipated monetary tightening (E49) | real credit costs (G21) |
| forward guidance (E60) | strength of policy transmission (F42) |
| monetary policy surprise (E60) | economic activity (E20) |