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The Impact Of Paying Interest On Reserves In The Presence Of Government Deficit Financing

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  • MARK G. GUZMAN

Abstract

This paper reexamines the impact that paying interest on reserves has on price level indeterminacy, volatility, and economic well‐being. Unlike the previous literature, this model includes an after‐tax deficit financed by assets (bonds and reserves) whose returns are linked. I show that the number of steady‐state equilibria and the corresponding level of indeterminacy are equal to, or greater than, those arising in the no‐interest economy. When the level of indeterminacy is the same, the economic volatility is reduced by paying interest. However, greater indeterminacy in the interest economy results in greater volatility. Finally, paying interest on reserves can enhance welfare. (JEL D6, E3, E5)

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  • Mark G. Guzman, 2008. "The Impact Of Paying Interest On Reserves In The Presence Of Government Deficit Financing," Economic Inquiry, Western Economic Association International, vol. 46(4), pages 624-642, October.
    • Handle: RePEc:bla:ecinqu:v:46:y:2008:i:4:p:624-642
    DOI: 10.1111/j.1465-7295.2007.00106.x
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    More about this item

    JEL classification:

    • D6 - Microeconomics - - Welfare Economics
    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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