The Bank of England published a staff working paper examining why monetary policy appears able to affect long-term real interest rates, arguing that very persistent policy-induced rate changes can have only weak effects on economic activity when consumption and saving are shaped by life-cycle retirement motives. Using a finitely lived agent New Keynesian framework, the paper attributes the impact of highly persistent monetary policy shocks to two offsetting forces: an asset valuation effect and changes in the average marginal propensity to consume out of financial wealth. The authors’ quantitative analysis suggests these forces roughly cancel, allowing monetary policy to (unconsciously) influence trends in long-run real rates and implying that very precise knowledge of the natural rate of interest (r*) may not be essential for successful monetary policy. The Bank of England notes the paper is research in progress published to elicit comments and debate, and does not represent Bank of England policy.
Bank of England 2025-02-21
Bank of England staff paper argues persistent policy rate shifts can move long term real rates with limited impact on activity
The Bank of England released a staff working paper exploring the limited impact of persistent monetary policy changes on long-term real interest rates, highlighting the offsetting effects of asset valuation and consumption propensity. The analysis suggests these forces neutralize each other, indicating precise knowledge of the natural rate of interest may not be crucial for effective policy. The paper is intended to provoke discussion and does not reflect official Bank policy.