reuters, ‘ the high road to a responsible, open financial system ’ carney, m ( 2017b ), remarks at the banking standards board panel ‘ worthy of trust? law, ethics and culture in banking ’ geithner, t ( 2014 ) stress test. random house haidt, j ( 2012 ) the righteous mind. vintage books. kouzes, j and posner, b ( 2010 ) the truth about leadership. john wiley & sons. maxwell, j ( 2007 ) the 21 irrefutable laws of leadership, thomas nelson ng kok song, p ( 2014 ) contemplative leadership, meditatio paulson, h ( 2010 ) on the brink : inside the race to stop the collapse of the global financial system. business plus. warsh, k ( 2009 ) speech given at the council of institutional investors spring meeting ‘ the panic of 2008 all speeches are available online at www. bankofengland. co. uk / speeches

by construction – to be in a liquidity trap. as is well known, the optimal policy within this class of models is for the central bank to commit to low interest rates for an extended period and to a temporary overshoot of the inflation target. exchange rate depreciations ( svensson 2001 ) and interest rate commitments ( krugman 1998, woodford 2003 ) are examples of policy recommendations stemming from this result. the crucial insight emphasised by these models is that expectations matter, and provide a mechanism through which policy makers can seek to influence activity at the zero bound. this is an important channel of monetary transmission and one i will return to. but the argument that monetary policy can work only through expectations management is not a robust result. it rests on very particular assumptions. in this class of models, financial markets are assumed to be complete and frictionless and the representative agent is able to arbitrage across all financial markets. as such, all non - aggregate risk in the economy can be hedged perfectly and asset prices depend only on state - contingent payoffs. under these assumptions, demand curves for financial assets are perfectly elastic. but in the real world it seems plausible that demand curves for assets, in addition to money, are downward sloping to some degree, in which case changes in their relative supplies can affect their relative prices. it is this which gives quantitative easing its traction. half a century ago tobin ( 1958 ), in pioneering work on portfolio allocation, recognised that a range of assets, in addition to money, are likely to be imperfect substitutes. but tobin did not articulate fully the frictions that could generate such imperfect substitutability. more recently, there has been rapid development in micro models of the source of financial frictions which can motivate imperfect substitutability. recent examples include brunnermeier and pedersen ( 2009 ) and vayanos and weill ( 2008 ). 1 these models help to explain when and why investors may face un - diversifiable risks when holding specific types of securities, such that they become imperfect substitutes for otherwise similar assets. in brunnermeier and pedersen ( 2009 ), for example, marketmakers face uncertainty over the in addition see duffie, garleanu and pedersen, ( 2007 ). timing of customers ’ trades. they are unable to hedge perfectly this liquidity risk because of borrowing constraints, so that less liquid securities are imperfect substitutes for more liquid ones. this liquidity risk leads