Expectations-driven liquidity traps: implications for monetary and fiscal policy

Taisuke Nakata and Sebastian Schmidt

No 2304, Working Paper Series from European Central Bank

Abstract: We study optimal monetary and fiscal policy in a New Keynesian model where occasional declines in agents’ confidence can give rise to persistent liquidity trap episodes. Unlike in the case of fundamental-driven liquidity traps, there is no straightforward recipe for mitigating the welfare costs and the systematic inflation shortfall associated with expectations-driven liquidity traps. Raising the inflation target or appointing an inflation-conservative central banker improves inflation outcomes away from the lower bound but exacerbates the shortfall at the lower bound. Using government spending as an additional policy tool worsens stabilization outcomes both at and away from the lower bound. However, appointing a policymaker who is sufficiently less concerned with government spending stabilization than society can eliminate expectations-driven liquidity traps altogether. JEL Classification: E52, E61, E62

Keywords: discretion; effective lower bound; fiscal policy; monetary policy; policy delegation; sunspot equilibria (search for similar items in EconPapers)
Date: 2019-08
New Economics Papers: this item is included in nep-cba, nep-dge, nep-mac, nep-mon and nep-opm
Note: 2179645
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (5)

Downloads: (external link)
https://www.ecb.europa.eu//pub/pdf/scpwps/ecb.wp2304~8e4b7bb2de.en.pdf (application/pdf)

Related works:
Journal Article: Expectations-Driven Liquidity Traps: Implications for Monetary and Fiscal Policy (2022)
Working Paper: Expectations-driven liquidity traps: Implications for monetary and fiscal policy (2020)
Working Paper: Expectations-Driven Liquidity Traps: Implications for Monetary and Fiscal Policy (2019)
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:ecb:ecbwps:20192304

Access Statistics for this paper

More papers in Working Paper Series from European Central Bank 60640 Frankfurt am Main, Germany. Contact information at EDIRC.
Bibliographic data for series maintained by Official Publications ().