Self-fulfilling recessions at the zero lower bound

Charles Brendon, Matthias Paustian and Tony Yates

Journal of Monetary Economics, 2020, vol. 115, issue C, 213-232

Abstract: We highlight an overlooked source of equilibrium multiplicity in monetary economies subject to a zero bound on nominal interest rates. In environments with sufficient endogenous propagation, depressed contemporary economic conditions must directly lower expectations of future output and inflation. A current recession followed by gradual convergence back to steady state may then be an equilibrium outcome, without any exogenous impulse. We present this mechanism heuristically in partial equilibrium, and in two computed examples of New Keynesian economies. Expansionary fiscal policy makes the recessionary equilibrium more severe at the margin, but commitment to a sufficiently large expansion can rule out multiplicity.

Keywords: Zero lower bound; Equilibrium multiplicity; Fiscal policy (search for similar items in EconPapers)
Date: 2020
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Persistent link: https://EconPapers.repec.org/RePEc:eee:moneco:v:115:y:2020:i:c:p:213-232

DOI: 10.1016/j.jmoneco.2019.06.004

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