Report

Managing Monetary Policy Normalization


Abstract: We propose a new framework for monetary policy analysis to study monetary policy normalization when exiting a liquidity trap. The optimal combination of reserves and interest rate policy requires an increase in liquidity (reserves) a few quarters after the policy rate is set at the effective lower bound. Removal of accommodation requires that quantitative tightening starts before the liftoff of the policy rate. Moreover, the withdrawal of liquidity takes place at a very slow pace relative to the normalization of the policy rate.

Keywords: reserve management; central bank balance sheet; quantitative tightening; quantitative easing; interest on reserves;

JEL Classification: E31; E43; E52; E58;

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Provider: Federal Reserve Bank of New York

Part of Series: Staff Reports

Publication Date: 2022-05-01

Number: 1015