The Liquidity Effect and Long-Run Neutrality

Ben S. Bernanke, Ilian Mihov

NBER Working Paper No. 6608
Issued in June 1998
NBER Program(s):   EFG   ME

The propositions that monetary expansion lowers short-term nominal interest rates (the liquidity effect), and that monetary policy does not have long-run real effects (long-run neutrality), are widely accepted, yet to date the empirical evidence for both is mixed. We reconsider both propositions simultaneously in a structural VAR context, using a model of the market for bank reserves due to Bernanke and Mihov (forthcoming). We find little basis for rejecting either the liquidity effect or long-run neutrality. Our results are robust over the space of admissible model parameter values, and to the use of long-run rather than short-run identifying restrictions.

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Published: Carnegie-Rochester Conference Series on Public Policy, Vol. 49, no. 1(December 1998): 149-194.

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