Government Debt and Expectations-Driven Liquidity Traps

Charles de Beauffort

International Journal of Central Banking, 2024, vol. 20, issue 4, 321-370

Abstract: The presence of an effective lower bound on the nominal interest rate creates a risk that expectations of low inflation become entrenched. When this happens, distortionary taxation and expansionary fiscal policies may result in a large accumulation of debt that spurs inflation when the lower bound ceases to bind. The corresponding increase in expected real interest rates then further depresses consumption and output. In light of this outcome, the welfare-maximizing strategy in an expectations-driven liquidity trap is to downsize the government by concurrently cutting taxes and spending. This policy achieves the twin objective of stimulating the economy while containing the debt accumulation.

Date: 2024
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://www.ijcb.org/journal/ijcb24q4a6.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ijc:ijcjou:y:2024:q:4:a:6

Access Statistics for this article

International Journal of Central Banking is currently edited by Loretta J. Mester

More articles in International Journal of Central Banking from International Journal of Central Banking
Bibliographic data for series maintained by Bank for International Settlements ().