Abstract :
In thewakeofthe1997–98financialcrises,interestratesinAsiawereraised
immediately,andthenreducedsharply.Wedescribeanenvironmentinwhichthisis
theoptimalmonetarypolicy.Theoptimalityoftheimmediateriseintheinterestrateis
an exampleofthetheoryofthesecondbest:althoughhighinterestratesintroducean
inefficiencywedgeintothelabormarket,theyareneverthelesswelfareimproving
becausetheymitigatedistortionsduetobindingcollateralconstraints.Overtime,asthe
collateralconstraintislessbinding,thefamiliarFriedmanforcesdominate,andinterest
ratesareoptimallysetaslowaspossible
