Should We be Afraid of Friedman's Rule?

Harald Uhlig ()

No 2548, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Should one think of zero nominal interest rates as an undesirable liquidity trap or as the desirable Friedman rule? I use three different frameworks to discuss this issue. First, I restate Cole and Kocherlakota's (1998) analysis of Friedman's rule: short run increases in the money stock - whether through issuing spending coupons, open market operations or foreign exchange intervention - change nothing as long as the money stock shrinks in the long run. Second, two simple ?Keynesian? models of the inflationary process with a zero lower bound on nominal interest rates imply either that deflationary spirals should be common or that a policy close to the Friedman rule and thus some deflation is optimal. Finally, a formal ?baby-sitting coop? model implies multiple equilibria, but does not support the injection of liquidity to restore the good equilibrium, in contrast to Krugman (1998).

Keywords: Friedman's rule; Liquidity trap; Cash in advance; Baby-sitting coop; Zero lower bound on nominal interest rates; Deflation; Deflationary spiral; Japan; Optimal monetary policy (search for similar items in EconPapers)
JEL-codes: E31 E41 E50 E51 E52 (search for similar items in EconPapers)
Date: 2000-09
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Citations: View citations in EconPapers (18)

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Working Paper: Should we be afraid of Friedman's rule? (2000)
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