The Non-Zero Lower Bound Lending Rate and the Liquidity Trap

Tarron Khemraj

MPRA Paper from University Library of Munich, Germany

Abstract: Most studies of the liquidity trap emphasize the zero bound benchmark policy rate. This paper integrates a non-zero lower bound lending rate and the traditional zero bound policy rate in a dynamic structural macroeconomic model that takes into consideration aggregate bank liquidity preference as a financial friction. The approach allows for analyzing the dynamic effects of quantitative easing and an interest rate policy. Once the non-zero lower limit is reached, increasing the benchmark policy rate marginally can have a positive effect on output. Expanding quantitative easing at the non-zero lower limit results in a negative effect on output. Increasing marginally the zero bound policy rate is better at stimulating inflation than quantitative easing. However, excessive tightening in a normal regime would result in the opposite effect.

Keywords: liquidity trap; quantitative easing; financial friction; excess liquidity (search for similar items in EconPapers)
JEL-codes: C32 E00 E40 E51 (search for similar items in EconPapers)
Date: 2011-09-01, Revised 2012-05-01
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:42030

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