Jeremy Piger

English

Research Papers in Economics

March 2003
MonetaryTrends
Views expressed do not necessarily reflect official positions of the Federal Reserve System.
Pushing on a String
T
he ability of monetary policy to slow an over-
heating economy is rarely questioned. However,
the efficacy of monetary policy to revive a sagging
economy has been long debated. Some economists argue
that monetary policy is largely powerless to revive econ-
omic activity after a downturn, comparing easy monetary
policy to “pushing on a string.” This idea has garnered
renewed attention in recent years, in no small part due to
weak recoveries following the past two recessions, despite
aggressive monetary easing.
Why might one think that the effect of a monetary
policy stimulus on the real economy is smaller than that
of a monetary policy tightening? One explanation posits
an asymmetry in the extent to which prices adjust follow-
ing a monetary policy action. In the long run, changes in
the monetary policy instrument, such as the federal funds
rate, are thought to affect only the price level and not real
output. However, many macroeconomists believe that
prices move sluggishly, allowing monetary policy to have
some effect on real output in the short run. If prices move
more sluggishly when decreasing than when increasing,
a monetary policy tightening will be reflected more in
output and less in prices than a monetary policy easing.
Such an asymmetry in the speed of price adjustment would
arise if firms were less likely to decrease than to increase
wages, which could occur if firms enter labor contracts
containing built-in wage increases.
To evaluate the evidence of asymmetry in the effects
of a monetary policy tightening compared with easing, I
use regression techniques to explore the connection
between quarterly growth in real gross domestic product
and past changes in the Federal Reserve’s policy instru-
ment, the federal funds rate.1 To separate policy tightening
from policy easing, increases and decreases in the funds
rate are included in the regression separately. The first
row in the table gives the cumulative response of output
growth in the two years following a 1-percentage-point
increase in the funds rate. That is, a 1-percentage-point
increase in the funds rate is estimated to reduce quarterly
output growth over the following two years by about 
1.2 percentage points. The second row shows that a 1-
percentage-point decline in the funds rate is estimated to
increase quarterly output growth over the following two
years by about 0.5 percentage points. Thus, the short-run
response of output to increases in the funds rate is esti-
mated to be over twice as large as the response to decreases
in the funds rate.
Of course, these results are by no means conclusive
and may be misleading for many reasons. For example,
the extent to which the funds rate precedes output growth
may not be a good measure of the effects of monetary
policy. This would be true if the funds rate preceded output
growth only because the Federal Reserve moves the funds
rate in response to other economic forces that truly drive
output. However, while the results should be interpreted
with caution, they are consistent with the view that a
monetary policy tightening has more effect on output
growth than a monetary policy easing.
—Jeremy Piger
1The regression was run over the sample period from 1963:Q2 to 2002:Q4.
Other control variables in the regression included past values of output growth
and inflation.
Available on the web at research.stlouisfed.org
Measuring the Effects of Monetary Policy
Cumulative response 
of quarterly GDP growth 
Policy action (percentage points)
Federal funds rate increase –1.21
Federal funds rate decrease 0.53

Pushing on a string

http://research.stlouisfed.org/publications/mt/20030301/cover.pdf

Pushing on a string

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