Chapter 23 - Modern monetary policy and the challenges facing central bankers. In this chapter we will: Examine the transmission mechanism of monetary policy, and answer the questions of why, in the aftermath of the financial crisis of 2007-2009, monetary policy and the challenges facing central bankers are especially difficult. | Chapter Twenty-Three 23- Introduction In this chapter we will: Examine the transmission mechanism of monetary policy, and Answer the questions of why, in the aftermath of the financial crisis of 2007-2009, monetary policy and the challenges facing central bankers are especially difficult. 23- 23- The Monetary Policy Transmission Mechanism We need to examine the various ways in which changes in the policy-controlled interest rate influence the quantity of aggregate output demanded in the economy as a whole. These are collectively referred to as the channels of the monetary policy transmission mechanism. We will begin with the traditional interest-rate and exchange-rate channels. We will then study the role of banks and finally the importance of stock price movements. 23- The Traditional Channels: Interest Rates and Exchange Rates Easing of monetary policy - a decrease in the target nominal interest rate, which lowers the real interest rate - leads to a . | Chapter Twenty-Three 23- Introduction In this chapter we will: Examine the transmission mechanism of monetary policy, and Answer the questions of why, in the aftermath of the financial crisis of 2007-2009, monetary policy and the challenges facing central bankers are especially difficult. 23- 23- The Monetary Policy Transmission Mechanism We need to examine the various ways in which changes in the policy-controlled interest rate influence the quantity of aggregate output demanded in the economy as a whole. These are collectively referred to as the channels of the monetary policy transmission mechanism. We will begin with the traditional interest-rate and exchange-rate channels. We will then study the role of banks and finally the importance of stock price movements. 23- The Traditional Channels: Interest Rates and Exchange Rates Easing of monetary policy - a decrease in the target nominal interest rate, which lowers the real interest rate - leads to a depreciation of the dollar. The less valuable dollar: Drives up the cost of imported goods and services, reducing imports from abroad, and Makes . goods and services cheaper to foreigners, so they will buy more of them. 23- The Traditional Channels: Interest Rates and Exchange Rates However, the interest-rate channel is not very powerful. Data suggest that the investment component of total spending isn’t very sensitive to interest rates. While a small change in the interest rate does change the cost of external financing, it doesn’t have much effect on investment decisions. 23- The Traditional Channels: Interest Rates and Exchange Rates The impact of short-term interest rates on household decisions is also rather modest. The problems is that people’s decisions to purchase cars or houses depend on longer-term interest rates rather than the policymakers’ short-run target rate. Household consumption decisions will only change to the extent that the target interest rate .
