Monetary policy effectiveness in the liquidity trap: a switching regimes approach

Dimitris Kirikos

Review of Keynesian Economics, 2021, vol. 9, issue 1, 139-155

Abstract: Liquidity trap economics seems to have fared particularly well on all counts of its predictions, in the aftermath of the 2008 global financial crisis. Therefore, in this paper we evaluate formally the effectiveness of unconventional monetary policy in a liquidity trap, based on data from Japan, the USA, and the eurozone over periods of liquidity trap conditions (1994–2018 for Japan and 2009–2018 for the USA and the eurozone). Under effective unconventional policies, changes in the base money-growth regime should be associated with similar regime changes in either inflation or investment expenditure growth and the estimation of a switching regimes model allows us to test whether significant joint regime shifts occur in the data. Also, a test of liquidity trap conditions is based on a discrepancy of regime shifts between growth rates of base money and broad money, since this implies a collapse of the money multiplier. Our findings show that drastic shifts in the growth rate of the monetary base do not produce similar behavior for the inflation rate, investment expenditure growth, and broad money growth, thus pointing to liquidity trap conditions and unconventional monetary policy ineffectiveness.

Keywords: liquidity trap; zero lower bound; Markov switching regimes; quantitative easing (search for similar items in EconPapers)
JEL-codes: E51 E52 E58 (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (2)

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