ABSTRACT
This chapter focuses on asset price volatility and monetary policy. Large swings in asset prices have become a challenge to monetary policy, in particular if it makes the banking system vulnerable and fragile. This gives a detailed study about first the nexus of asset prices and monetary policy. The chapter brings in the banking system. It documents the 1990s inflation rates remained relatively stable and low, while the prices of equities, bonds and foreign exchanges experienced strong volatility with the liberalization of financial markets. Some central banks, therefore, have become concerned with such volatility and doubt whether the volatility is justifiable on the basis of economic fundamentals. The question has arisen whether a monetary policy should be pursued that takes into account financial markets and asset price stabilization. This issue was raised already in the 1990s, but it re-emerged again after the financial meltdown of the years 2007-2009 and the great recession after that.
