The Evolution of Monetary Rules with Financial Stability Considerations

Abstract

In this study, we estimate and investigate the evolution of monetary rules in China and the United States during the 21st century. Our aim is to examine whether financial stability has been taken into consideration in practical monetary policy decision making. By proposing a new estimation method that combines the structural break estimation technique with an extended Taylor rule, we can estimate structural breaks and split the entire time period into multiple monetary regimes based on the macroeconomic data for both China and the U.S. Specifically, we in fact estimate an extended Taylor rule with financial stability considerations and its evolution over time. Our findings show that China’s monetary policy emphasized the financial stress of the U.S. in the early years, before and during the 2008 global financial crisis. However, since then, the coefficient for the U.S. financial stress has decreased since then, showing less consideration for the U.S. financial stability and more emphasis on the domestic financial market by Chinese policymakers.