Seminar: Piotr Zoch, Warsaw

Abstract:

We characterize the governments' optimal responses to asset market disturbances across a broad class of models with financial frictions. We show that the Ramsey plan can be achieved by a policy rule targeting a specific relationship between asset returns, regardless of the underlying disturbances. This relationship is determined by asset supply and demand elasticities that can be estimated empirically with standard identification strategies. Absent financial frictions, the optimal policy stabilizes spreads across all assets. However, in canonical financial intermediation models, the optimal rule prescribes a time-varying spread that increases with expected returns on capital to facilitate intermediation. We apply our framework to study the optimal design of asset purchase programs, as implied by key empirical estimates of asset supply and demand elasticities.