Optimal Monetary Policy in a Liquidity Trap: Evaluations for Japan’s Monetary Policy

Kohei Hasui and Yuki Teranishi

No 50, Working Papers on Central Bank Communication from University of Tokyo, Graduate School of Economics

Abstract: This paper shows that the Bank of Japan’s monetary policy shares several common points with optimal monetary policy in a liquidity trap to large negative shocks by the recent pandemic. The zero interest rate policy continues even after inflation rates sufficiently exceed the 2 percent and hit the peak. Optimal monetary policy keeps the zero interest rate policy until the second quarter of 2024 and the Bank of Japan continues the zero interest rate at least until the second quarter of 2024. Recent high inflation rates can be explained by a prolonged zero interest rate policy. Average inflation rates from 2021 to 2023 years are 2.2 percent and 2.1 percent in the data and the simulation, respectively. According to scenarios for anchored inflation expectations and long-run natural interest rates, the optimal timing to terminate the zero interest rate policy and a speed of the monetary tightening after the zero interest rate policy change. As anchored inflation expectations and natural interest rates decline, the zero interest rate policy continues longer.

Keywords: liquidity trap; optimal monetary policy; inflation persistence; forward guidance (search for similar items in EconPapers)
JEL-codes: E31 E52 E58 E61 (search for similar items in EconPapers)
Pages: 19 pages
Date: 2024-07
New Economics Papers: this item is included in nep-ban, nep-cba and nep-mon
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