Please use this identifier to cite or link to this item: http://hdl.handle.net/10419/77650
Authors: 
Cao, Jin
Chollete, Lorán
Year of Publication: 
2013
Series/Report no.: 
CESifo Working Paper 4272
Abstract: 
Most theoretical central bank models use short horizons and focus on a single tradeoff. However, in reality central banks play complex, long horizon games and face more than one tradeoff. We account for these issues in a simple infinite horizon game with a novel tradeoff: higher rates deter financial imbalances, but lower rates reduce the likelihood of bankruptcy. We term these factors discipline and stability effects, respectively. The central bank's welfare decreases with dependence between real and financial shocks, so it may reduce costs with correlation-indexed securities. Generally, independent central banks cannot attain both low inflation and financial stability.
Subjects: 
central bank
correlation-indexed security
discipline effect
stability effect
JEL: 
E50
G21
G28
Document Type: 
Working Paper

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