Central Banks and Financial Markets

Central Banks and Financial Markets

The Declining Power of US Monetary Policy

Hasan Cömert

In the wake of the financial crisis of 2008, there has been increasing debate over the appropriate role of central banks in mitigating economic disaster. This timely volume combines detailed historical and econometric analyses to explore the profound changes that occurred within the US financial system from the 1980s to the present, and shows how these changes have affected the US economy.

Chapter 2: The co-evolution of monetary policy and the US financial system: declining effectiveness of US monetary policy

Hasan Cömert

Subjects: economics and finance, financial economics and regulation


The world has witnessed several prominent political and economic changes since the 1980s. In the economic sphere, one of the most notable was the decreasing importance of fiscal policy and increasing importance of central banking (monetary policy) all around the world. In the words of Mishkin (1995:13) “meanwhile monetary policy has been ever more at the center of macroeconomic policymaking.” Central banks try to reach their targets through mainly exerting influence on the quantities and prices of financial assets. As Friedman (2000b:45) puts it “[m]oving financial markets to an extent sufficient to affect non-financial economic activity is precisely what central banks seek to do.” Since the 1980s, the financial system has experienced a transformation into a much more complex, opaque and bigger system. Financial integration reached unprecedented levels. Meanwhile, central banks abandoned several of their tools and began using more indirect tools. Their regulatory framework has also changed significantly.

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