Negative nominal interest rates and monetary policy

Duhyeong Kim

Journal of Monetary Economics, 2025, vol. 154, issue C

Abstract: How much can central banks reduce nominal interest rates? Can the lower bound be controlled by monetary policy? If so, should central banks reduce it to implement negative interest rates? I construct a model with multiple means of payment where the costs of holding paper currency effectively reduce its rate of return, creating a negative effective lower bound on interest rates. I find that central banks can reduce this lower bound with a non-par exchange rate between currency and bank reserves, but doing so raises currency-holding costs for individuals, leading to welfare losses. Moreover, implementing a negative rate by reducing the lower bound has no benefits because this policy combination lowers both the rate of return on currency and the interest rate on financial assets, leaving relative interest rates unchanged.

Keywords: Negative interest rate; Effective lower bound; Money; Banking; Monetary policy (search for similar items in EconPapers)
JEL-codes: E4 E5 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eee:moneco:v:154:y:2025:i:c:s0304393225000704

DOI: 10.1016/j.jmoneco.2025.103799

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