Channels of Monetary Transmission
THE CHANNELS OF MONETARY TRANSMISSION
The monetary transmission mechanism is the channels through which the monetary target works and it describes the mechanisms through which the monetary policy actions of the central bank impact on the ultimate objective of inflation and output.
Miskhin (1995) usefully describes the various channels through which monetary policy action as summarized by changes in either the nominal money stock or the short term nominal interest rate, impact real variables such as aggregate output and employment. According to the traditional Keynesian interest rate channel, a policy induced increase in the short term nominal interest rate, leads first to an increase in longer- term nominal interest rates, as investors act to arbitrage away the differences in risk-adjusted expected returns on debt hypothesis of the term structure. When nominal prices are slow to adjust, these movements in nominal interest rates translate into movements in real interest rates as well. Firms, finding that their real cost of borrowing over all the horizons has increased, cut back on their investment expenditures. Likewise, households facing higher real borrowing costs scale back on their purchases of homes, automobiles and other durable goods, aggregate output and employment fall.
According to Frederic S. Miskhin, there are three main types of monetary transmission mechanism models;
1. Interest Rate Channels
2. Other Asset Price Channels (including Exchange Rates, Equity Prices, Real Estate)
3. Credit Channels (including the Bank Lending Channel and the Balance Sheet Channel)
THE EXCHANGE RATE CHANNEL
Another channel through which monetary policy can affect GDP, and one that is sometimes modeled in the IS-LM model, is through the impact on exchange rates. The basic idea is as follows: when the central bank increases the money supply, it lowers short-term nominal interest rates and thus lowers short-term real interest rates as well. Lower short-term
The monetary transmission mechanism is the channels through which the monetary target works and it describes the mechanisms through which the monetary policy actions of the central bank impact on the ultimate objective of inflation and output.
Miskhin (1995) usefully describes the various channels through which monetary policy action as summarized by changes in either the nominal money stock or the short term nominal interest rate, impact real variables such as aggregate output and employment. According to the traditional Keynesian interest rate channel, a policy induced increase in the short term nominal interest rate, leads first to an increase in longer- term nominal interest rates, as investors act to arbitrage away the differences in risk-adjusted expected returns on debt hypothesis of the term structure. When nominal prices are slow to adjust, these movements in nominal interest rates translate into movements in real interest rates as well. Firms, finding that their real cost of borrowing over all the horizons has increased, cut back on their investment expenditures. Likewise, households facing higher real borrowing costs scale back on their purchases of homes, automobiles and other durable goods, aggregate output and employment fall.
According to Frederic S. Miskhin, there are three main types of monetary transmission mechanism models;
1. Interest Rate Channels
2. Other Asset Price Channels (including Exchange Rates, Equity Prices, Real Estate)
3. Credit Channels (including the Bank Lending Channel and the Balance Sheet Channel)
THE EXCHANGE RATE CHANNEL
Another channel through which monetary policy can affect GDP, and one that is sometimes modeled in the IS-LM model, is through the impact on exchange rates. The basic idea is as follows: when the central bank increases the money supply, it lowers short-term nominal interest rates and thus lowers short-term real interest rates as well. Lower short-term