More on Monetary Policy Before and After the Panic of 2008

Many agree that the provision of liquidity by the Fed during the panic period in the fall of 2008 was helpful in alleviating severe stress in the markets and rebuilding confidence. Most criticism of the Fed pertains to the period before and after the panic, which, in my view, helped cause the crisis and the slow recovery.  In several recent posts I have given examples of the growing criticism of post-panic monetary policy including by Paul Volcker and Raghu Rajan.  Criticism of policy leading up to the crisis seems to be growing too.

For example, a new book by Justin Lin, former chief economist at the World Bank, was just reviewed by Howard Davies (former deputy governor of the Bank of England) in the Financial Times.  Lin argues that the very low interest rates during the recovery from the 2001 recession were a cause of the housing boom and thus the bust which led to the crisis.  As quoted in the Davies review, Lin says:   “The loose monetary policy introduced in 2001 in response to the bursting of the dotcom bubble, magnified by financial deregulation and innovations in financial instruments, resulted in a boom in the US housing market.”  My 2007 Jackson Hole paper endeavored to show this using a simple model to measure how “loose” monetary policy was and to run a counterfactual simulation showing how that was a factor in the boom and bust.

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