Policy interaction, expectation and the liquidity trap

Arbeitspapier

In this paper we consider inflation and government debt dynamics when monetary policy employs a global interest rate rule and private agents' forecasts using adaptive learning.Because of the zero lower bound on interest rates, active interest rate rules are known to imply the existence of a second, low inflation steady state, below the target inflation rate.Under adaptive learning dynamics we find the additional possibility of a liquidity trap, in which the economy slips below this low inflation steady state and is driven to an even lower inflation floor which, in turn, is supported by a switch to an aggressive money supply rule.Fiscal policy alone cannot push the economy out of the liquidity trap. However, raising the threshold at which the money supply rule is employed can dislodge the economy from the liquidity trap and ensure a return to the target equilibrium.

Object Details

• ISBN: 952-462-080-4
• Language: Englisch

References and Relationships

• Bibliographic citation: Series: Bank of Finland Discussion Papers ; No. 22/2003

Classification and Topics

• Classification: Wirtschaft ; Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy ; Monetary Policy ; Central Banks and Their Policies
• Subject: stability of equilibria ; fiscal and monetary policy ; interest rate and money supply rules

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Evans, George W. ; Honkapohja, Seppo
• Event: Veröffentlichung
• (who): Bank of Finland
• (where): Helsinki
• (when): 2003

Further information

• Handle: http://hdl.handle.net/10419/211955
• Last update: 10.03.2025, 11:43 AM CET