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The Zero Bound on Interest Rates and Optimal Monetary Policy

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Author Info

  • Gauti B. Eggertsson

    (International Monetary Fund)

  • Michael Woodford

    (Princeton University)

Abstract

This paper considers the consequences for monetary policy of the zero floor for nominal interest rates. The zero bound can be a significant constraint on the ability of a central bank to combat deflation. The paper shows, in the context of an intertemporal equilibrium model, that open-market operations, even of "unconventional" types, are ineffective if future policy is expected to be purely forward looking. However, a credible commitment to the right sort of history-dependent policy can largely mitigate the distortions created by the zero bound. In the model, optimal policy involves a commitment to adjust interest rates so as to achieve a time-varying price-level target, when this is consistent with the zero bound. The paper also discusses ways in which other central bank actions, although irrelevant apart from their effects on expectations, may help to make a central bank's commitment to its target more credible.

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Bibliographic Info

Article provided by Economic Studies Program, The Brookings Institution in its journal Brookings Papers on Economic Activity.

Volume (Year): 34 (2003)
Issue (Month): 1 ()
Pages: 139-235

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Handle: RePEc:bin:bpeajo:v:34:y:2003:i:2003-1:p:139-235

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Related research

Keywords: macroeconomics; Zero Bound; Interest Rates; Optimal Monetary Policy;

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Citations

Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Bernanke: Monetary Policy and the Housing Bubble
    by Mark Thoma in Economist's View on 2010-01-03 20:06:00
  2. Monetary Policy and the Housing Bubble
    by Guest Author in the big picture on 2010-01-04 11:00:02
  3. Eggertsson/Woodford and Forward Guidance
    by Stephen Williamson in Stephen Williamson: New Monetarist Economics on 2012-09-14 16:10:00
  4. Le péril des cibles nominales
    by ? in D'un champ l'autre on 2014-01-11 12:10:00
  5. La trappe à sûreté
    by ? in D'un champ l'autre on 2014-02-24 23:59:00
  6. Quelle est l’efficacité du forward guidance à la borne inférieure zéro ?
    by ? in D'un champ l'autre on 2014-04-02 20:28:00
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