Uncertainty in Business Cycles Shapes Optimal Monetary Policy for Prosperity
The study explores whether financial factors should influence monetary policy. Previous models suggested they shouldn't, but when uncertainty is considered, it changes. The findings show that responding to uncertainty can help reduce financial risks, even if it causes mild inflation fluctuations. Higher uncertainty makes policymakers more willing to ease financial constraints. Credit spreads can indicate uncertainty, and adjusting policy based on them, along with fighting inflation, leads to the best overall welfare.