The Case for Open-Market Purchases in a Liquidity Trap

Auerbach, Alan; Obstfeld, Maurice

The Case for Open-Market Purchases in a Liquidity Trap

Macroeconomics from University Library of Munich, Germany

Abstract: Prevalent thinking about liquidity traps suggests that the perfect substitutability of money and bonds at a zero short-term nominal interest rate renders open-market operations ineffective for achieving macroeconomic stabilization goals. We show that even were this the case, there remains a powerful argument for large-scale open market operations as a fiscal policy tool. As we also demonstrate, however, this same reasoning implies that open-market operations will be beneficial for stabilization as well, even when the economy is expected to remain mired in a liquidity trap for some time. Thus, the microeconomic fiscal benefits of open-market operations in a liquidity trap go hand in hand with standard macroeconomic objectives. Motivated by Japan's recent economic experience, we use a dynamic general-equilibrium model to assess the welfare impact of open-market operations for an economy in Japan's predicament. We argue Japan can achieve a substantial welfare improvement through large open-market purchases of domestic government debt.

JEL-codes: E43 E52 E63 (search for similar items in EconPapers)
Pages: 61 pages
Date: 2004-07-07
New Economics Papers: this item is included in nep-fin, nep-mac and nep-mon
Note: 61 pages
References: Add references at CitEc
Citations: View citations in EconPapers (14)

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Persistent link: https://EconPapers.repec.org/RePEc:wpa:wuwpma:0407009

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