T4: The Impact of Quantitative Easing and the Zero Lower Bound on Asset Prices

To mitigate the negative impact of the financial crisis on economic growth many central banks applied unconventional measures of monetary policy like quantitative easing, which, among other things, caused interest rates to decrease substantially to and remain close to zero for extended periods of time, so that the zero lower bound on rates became binding. Although these monetary policy measures seem to have had some success, there are still a number of open questions with respect to the impact of these policies on asset prices. This is the focus of the proposed project. First, it is of interest to gain a deeper understanding of which monetary policy tool had what effect on equity and fixed income prices. The analysis of this question requires special empirical approaches, which we want to use and develop further in this project. Second, on a more detailed level, it is important to understand the effects of monetary policy interventions on the microstructure of asset markets in the sense of liquidity and limits to arbitrage, i.e., the existence of persistent price differences which cannot be arbitraged away. Third, in the context of a macrofinance equilibrium model the relation between risk premia and state variables like volatilities of (expected) consumption growth and (expected) inflation is linear in standard models without a zero lower bound, but will become nonlinear in models with rates capped at zero. The exact way in which risk premia are related to the state of the economy must be determined in an equilibrium model, which is the main content of the third part of the project. Another goal here is to infer the market expectation concerning output growth and inflation from equilibrium bond prices.

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