Why monetary policy matters: New UK narrative evidence
James Cloyne, Patrick Hürtgen 15 May 2014
The effects of interest-rate changes on output and inflation could be much larger than previously thought. Such evidence was suggested by Romer and Romer in their analysis of the US. This column provides similar estimates for the UK based on a novel real-time dataset. In response to a 1% increase in the interest rate, output declines by 0.6% and inflation falls by one percentage point after two to three years.
In recent decades, central banks around the world have predominantly used interest rates as their main monetary policy instrument. And while the zero lower bound has necessitated a range of unconventional monetary policies, many central banks clearly still intend to use interest rates as their preferred tool as their economies recover. A range of empirical estimates have emerged from the academic literature over several decades putting the effect on prices and output of a one percentage point increase in interest rates between 0.5% and 1%.
monetary policy, UK, interest rates changes