The Fed's Reaction to Asset Prices

Abstract

Should central banks react to stock market prices? This problem has become fashionable again after the bubble of the 1990s and the following recession: if the Fed had reacted earlier to con tain the sharp growth in stock prices, might macroeconomic stabilization have been achieved? We present a new set of estimates showing that the Fed did react to stock market prices in the period 1988-2003. In particular, we find a significant lagged response for both real-time data and ex post revised data, as we would expect from a stabilizing leaning-against-the-wind approach.