DP12671 Monetary Policy and Asset Valuation

Author(s): Francesco Bianchi, Martin Lettau, Sydney Ludvigson
Publication Date: January 2018
Date Revised: June 2018
JEL(s): G10, G12, G17
Programme Areas: Financial Economics, Monetary Economics and Fluctuations, Macroeconomics and Growth
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=12671

We find evidence of infrequent shifts, or "regimes" in the mean of the asset valuation variable cayt that are strongly associated with low-frequency fluctuations in the real federal funds rate, with low policy rates associated with high asset valuations, and vice versa. There is no evidence that infrequent shifts to high asset valuations are associated with higher expected economic growth or lower economic uncertainty; indeed, the opposite is true. Additional evidence shows that regimes of low interest rates and high asset valuations are characterized by lower equity market risk premia and monetary policy that is less responsive to inflation.