Research On The Dynamic Effectiveness Of Monetary Policy

In the past few decades,the global economic cycle presents an obvious phenomenon that the magnitude and speed both are strengthen,from the “Great Recession” in 1930 s to the stagflation phenomenon in 1970 s,and from the Asian financial crisis in 1990 s to the global economic crisis in the beginning of the twenty-first Century,all the phenomenon have brought serious economic recession and economic fluctuation to the global economy just at that moment.At the same time,monetary policy has gradually stepped onto the stage of history,and has gradually become an important means of macroeconomic regulation and control.It has played an increasingly important role in promoting economic development and smoothing economic fluctuations in various countries.However,with macro-economy control means of the monetary policy be frequently applied in various countries,the understanding about the regulation effect of monetary policy of central banks and academics have produced more and more major differences,and the regulation effects of different monetary policy has become a hot issue in the field of macroeconomic research.Since Keynes(1936)propose the government management and control theory and help the west countries pass through the great depression,the discretional monetary policy became the main macroeconomic control means in their central bank.But then the later phenomenon of stagflation raised strong doubts on Keynes theory,and the rules of the money supply proposed by Friedman in 1960 raised a serious challenge.The dynamic inconsistency theory proposed by Kydland and Prescott in 1977 indicates that the rules of monetary policy "defeat" discretionary monetary policy,and has gradually become an important means of macroeconomic regulation and control in the central bank.Subsequently,Taylor(1993)questioned the quantitative monetary policy rules,and put forward the famous "Taylor rule".However,in recent years,with the acceleration of economic fluctuations,the discretional monetary policy has been resurgent in the Central Bank of Japan and in the Central Bank of Europe.It can be seen that,although monetary policy plays a very important role in the global economic development,the effect is always the key of the fierce controversy in the various central banks and academia.There is no a unified conclusion about the relative effects between the discretional monetary policy and monetary policy rules,and the relative merits of quantitative monetary policy tools and price-based monetary policy tools also be questioned by various central banks.However,in this paper,we argue that the effectiveness of monetary policy depends on the transmission mechanism;the transmission mechanism depends on the important economic parameter in the economic system.In the background that the economic cycle significantly accelerated,the important parameters in the economic system must be changed,thus leading that the effectiveness of monetary policy will have significant differences in different economic periods,namely,the effectiveness of monetary policy is dynamic,and the previous study on the effectiveness of monetary policy based on the constant parameters which have the long-term invariance conclusion must be lack of practical economic significance.Therefore,in this paper,we explore the dynamic effectiveness of the quantitative monetary policy tools and price-based monetary policy tools firstly.The quantitative monetary policy tools mainly through regulating the supply in money market to achieve the purpose of macroeconomic regulation and control,the price-based monetary policy tools mainly through affecting the demand of microeconomic subject in money market to achieve the purpose of macroeconomic regulation and control.However,the effectiveness of the two kinds of monetary policy tools is greatly dependent on the external economic environment,named that the relative effectiveness of the quantitative monetary policy tools and price-based monetary policy tools will be different in different economic environment and in different periods.Thus,we construct a factor-augmented vector autoregressive model with time-varying coefficients and stochastic volatility,analyze the different economic goals' three dimensional impulse responses to the quantitative monetary policy tools and price-based monetary policy tools,and construct volatility index to study the dynamic effectiveness of the quantitative monetary policy tools and price-based monetary policy tools.It is found that,the first,in the period of recession,the PBOC wish to promote economic development,the quantitative monetary policy is more effective if reducing inflation and improving the public economic development are the main aim;the price-based monetary policy is more effective if promoting output,raising the level of employment,promoting private economic and promoting financial market development are the main aim.In the period of prosperous,the PBOC wish to control the economic fluctuation,the price-based monetary policy should be taken if controlling inflation fluctuation and public economic fluctuation are the main aim;the quantitative monetary policy should be taken if stabilizing output fluctuation,employment fluctuation,private economic fluctuation and financial market fluctuation are the main aim.In addition,the volatility component decomposition shows the good nature of the model in this paper,and finds that the shocks of monetary policy in the special periods are the main reason for the fluctuation which resulting from macroeconomic regulation of monetary policy.Then,in this paper,we analyze the dynamic effectiveness of the discretional monetary policy and monetary policy rule.For the discretional monetary policy,its' operation is flexible,but it is easy to cause the dynamic inconsistency;for the monetary policy rule,it can avoid the dynamic inconsistency,but cannot be flexible to deal with sudden economic shocks;and that,effectiveness of the discretional monetary policy and monetary policy rule also greatly depend on the external economic environment,namely that there is different relative effectiveness of the discretional monetary policy and monetary policy rule in different economic period and in different economic parameters.Thus,in this paper,we take the Markov regime switching method to improve the aggregate supply-demand model,thus to study the dynamic effectiveness of the discretional monetary policy and monetary policy rule from the perspective of social welfare,aggregate supply shock and aggregate demand shock in different economic periods.It is found that,from the view of social welfare,the monetary policy rule is more effective in the period of economic prosperity,except the situation that price rigidity is small;the discretional monetary policy is more effective in the period of economic recession,except the situation that price rigidity is small,forward-looking behavior proportion in the New Keynes Phillips Curve is small,the weight of output gap is small and the weight of the real interest rate is large.In addition,from the view of aggregate supply shock and aggregate demand shock,whether adjusting the aggregate supply shock or aggregate demand shock,the monetary policy rule is more effective in the period of economic prosperity,and the discretional monetary policy is more effective in the period of economic recession.Thirdly,in this paper,we study the dynamic effectiveness of three typical monetary policy rules.The implementation of monetary policy rule is just for promoting the optimal allocation of resources and achieving the expected economic goals,however,inappropriate monetary policy rule will cause that there is no unique equilibrium in economic system and no realization of policy effects.In addition,the transmission mechanism of monetary policy rule also depends on different economic environment in different economic periods.Thus,in this paper,we take the Money-supply rule,the Taylor rule,and the Forward-looking interest rate rule as the research object,construct a new Keynesian dynamic stochastic general equilibrium model,and study the policy space,the welfare losses,and the realization of policy effects of these different monetary policy rules based on the new Keynesian model.It is found that,there is no constant optimal monetary policy rule,and the optimal monetary policy rule would changed with the policy objective and the external environment in different economic times;the Money-supply rule is most undesirable,its' policy space is smallest,and welfare loss is biggest;the Taylor rule will be the optimal monetary policy rule when the central bank hopes to stabilize the macroeconomic indicators and when the monetary policy preference is bigger;the Forward-looking interest rate rule will be the optimal monetary policy rule when the central bank hopes to stimulate economic growth and when the monetary policy preference is smaller.Finally,in this paper,we design a monetary policy with both discretional component and rule component based on the monetary policy rule,and prove its “automatic stabilizer” function.The past classes of Taylor rule have not appeared a favorable applicability in China for their incapability in smoothing economic fluctuations,but also promoting economic fluctuations in some periods.Therefore,in this paper,we develop the Taylor rule to a Markov switching Taylor rule with time varying transition probabilities and use maximum likelihood estimation which based on expectation maximization algorithm to estimate the new Taylor rule,after that,we prove its automatic stabilizer function.It is found that,there is an dynamic effect for automatic stabilizer function of the rule component in monetary policy,in the regime one,there is no automatic stabilizer function in the rule component,in the regime two,there is a favorable automatic stabilizer function in the rule component;The discretion component can affect the self evolution probability of each regime,and it can guide the economic system to switch to the regime where the rule component has a favorable automatic stabilizer function when the counter-cycle regulation is carried out.In addition,we give the operation mode of monetary policy according to the automatic stabilizer mechanism.In the recession period,the central bank should increase the growth rate of High-powered money and loose window guidance,and take nominal short-term interest rates as the intermediate target;in the boom period,the central bank should raise the Sino US exchange rate under direct quotation and raise the reserve-deposit ratio,and take nominal short-term interest rates as the intermediate target.Based on the above research,in this paper,we begin with the comparative study on quantitative monetary policy tools and price-based monetary policy tools;analyze the dynamic effectiveness of quantitative monetary policy tools and price-based monetary policy tools in macroeconomic regulation and control from the view of promoting economic development and smoothing economic fluctuations.After that,from the side of the discretional monetary policy and monetary policy rule,we analyze the dynamic effectiveness of the discretional monetary policy and monetary policy rule in adjusting social welfare,and facing with aggregate supply shock and aggregate demand shock in different economic periods and in different economic parameters.Then,we analyze the dynamic effectiveness of three typical monetary policy rules from the view of policy space,resource allocation level,and the realization of policy effects.Finally,we design a monetary policy with both discretional component and rule component based on the one of monetary policy rule,and prove its “automatic stabilizer” function.This paper aims to explore the effectiveness of different monetary policy tools,different monetary policy decision mode,and different monetary policy rules from the dynamic perspective.However,the intrinsic transmission mechanism,micro foundation,and the type of mixed monetary policy were not given a large length analysis in this paper.But,taking the CGE model and DSGE model to study the micro foundation and transmission mechanism of monetary policy is my working paper.With the richness and perfection of China's economic data and the perfection of the analysis tools of monetary policy,we will have a deeper understanding of the theory and practice of monetary policy.