Optimal monetary policy in a 'sudden stop'

F. Braggion, L. Christiano, J. Roldos

Research output: Contribution to journalArticleScientificpeer-review

30 Citations (Scopus)


In the wake of the 1997–98 financial crises, interest rates in Asia were raised immediately, and then reduced sharply. We describe an environment in which this is the optimal monetary policy. The optimality of the immediate rise in the interest rate is an example of the theory of the second best: although high interest rates introduce an inefficiency wedge into the labor market, they are nevertheless welfare improving because they mitigate distortions due to binding collateral constraints. Over time, as the collateral constraint is less binding, the familiar Friedman forces dominate, and interest rates are optimally set as low as possible.
Original languageEnglish
Pages (from-to)582-595
JournalJournal of Monetary Economics
Issue number4
Publication statusPublished - 2009


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