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See October 2009 GFSR For a discussion of the measures undertaken by central banks and their impact on markets.
The model expresses each real sector variable in deviation from its trend—that is, in “gap” terms.
Here potential output could be thought of as the level of output that does not generate pressures for prices to rise and fall.
The risk premium could reflect portfolio preferences (perhaps related to debt levels) and credibility effects.
On the subject of the role of monetary policy under credit constraints, Cúrdia and Woodford (2008) consider a “spread-adjusted Taylor rule”, in which the intercept of the Taylor rule is adjusted with changes in credit spreads. See also Gray and Malone (2008).
Equation (22) would take a slightly different form if households’ hold international assets.
The technical details of the LRX filter are explained in Appendix III of Berg, Karam, and Laxton (2006). It provides a simple generalized version of the original Hodrick-Prescott filter that allows the analyst to impose priors for the trend values in situations where they believe they have useful information that would not be captured otherwise.