Optimal monetary policy in a 'sudden stop'

Fabio Braggion, Lawrence J. Christiano*, Jorge Roldos

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

22 Scopus citations

Abstract

In the wake of the 1997-98 financial crises, interest rates in Asia were raised immediately, and then reduced sharply. We describe an environment in which this is the optimal monetary policy. The optimality of the immediate rise in the interest rate is an example of the theory of the second best: although high interest rates introduce an inefficiency wedge into the labor market, they are nevertheless welfare improving because they mitigate distortions due to binding collateral constraints. Over time, as the collateral constraint is less binding, the familiar Friedman forces dominate, and interest rates are optimally set as low as possible.

Original languageEnglish (US)
Pages (from-to)582-595
Number of pages14
JournalJournal of Monetary Economics
Volume56
Issue number4
DOIs
StatePublished - May 2009

Keywords

  • Collateral constraint
  • Friedman rule
  • Small open economy

ASJC Scopus subject areas

  • Finance
  • Economics and Econometrics

Fingerprint Dive into the research topics of 'Optimal monetary policy in a 'sudden stop''. Together they form a unique fingerprint.

Cite this