The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap

Lars Svensson

No 7957, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: The paper examines the transmission mechanism of monetary policy in an open economy with and without a binding zero bound on nominal interest rates. In particular, a foolproof way of escaping from a liquidity trap is presented, consisting of a price-level target path, a devaluation of the currency and a temporary exchange rate peg, which is later abandoned in favor of price-level or inflation targeting when the price-level target has been reached. This will jump-start the economy and escape deflation by a real depreciation of the domestic currency, a lower long real interest rate, and increased inflation expectations. The abandonment of the exchange-rate peg and the shift to price-level or inflation targeting will avoid the risk of overheating. Some conclusions for Japan are included.

JEL-codes: E52 F31 (search for similar items in EconPapers)
Date: 2000-10
Note: IFM ME
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (52)

Published as Monetary and Economic Studies, Vol. 19, S1 (February 2001): 277-312
Published as as "Escaping From A Liquidity Trap And Deflation: The Foolproof Way And Others," Journal of Economic Perspectives, Vol. 17, no. 4 (Autumn 2003): 145-166

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Journal Article: The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap (2001)
Working Paper: The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap (2000)
Working Paper: The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap (2000)
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