Reputation and Liquidity Traps

Taisuke Nakata

Review of Economic Dynamics, 2018, vol. 28, 252-268

Abstract: Can the central bank credibly commit to keeping the nominal interest rate low for an extended period of time in the aftermath of a deep recession? By analyzing credible plans in a sticky-price economy with occasionally binding zero lower bound constraints, I find that the answer is yes if contractionary shocks hit the economy with sufficient frequency. In the best credible plan, if the central bank reneges on the promise of low policy rates, it will lose reputation and the private sector will not believe such promises in future recessions. Even with a very small probability of future contractionary shocks, the incentive to maintain reputation outweighs the short-run incentive to close consumption and inflation gaps and keeps the central bank on the originally announced path of low nominal interest rates. (Copyright: Elsevier)

Keywords: Commitment; Credible Policy; Forward Guidance; Liquidity Trap; Reputation; Sustainable Plan; Time Consistency; Trigger Strategy; Zero Lower Bound (search for similar items in EconPapers)
JEL-codes: E32 E52 E61 E62 E63 (search for similar items in EconPapers)
Date: 2018
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Citations: View citations in EconPapers (26)

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DOI: 10.1016/j.red.2017.09.001

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