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Optimal fiscal and monetary policy with occasionally binding zero bound constraints

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  • Taisuke Nakata

Abstract

This paper studies optimal government spending and monetary policy when the nominal interest rate is subject to the zero lower bound constraint in a stochastic New Keynesian economy. I find that the government chooses to increase its spending when at the zero lower bound by a substantially larger amount in the stochastic environment than it would in the deterministic environment. The presence of uncertainty creates a unique time-consistency problem if the steady-state is inefficient. Although access to government spending policy increases welfare in the face of a large deflationary shock, it decreases welfare during normal times as the government reduces the nominal interest rate less aggressively before reaching the zero lower bound

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Bibliographic Info

Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2013-40.

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Date of creation: 2013
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Handle: RePEc:fip:fedgfe:2013-40

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References

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  1. Olivier Coibion & Yuriy Gorodnichenko & Johannes F. Wieland, 2010. "The Optimal Inflation Rate in New Keynesian Models," NBER Working Papers 16093, National Bureau of Economic Research, Inc.
  2. Taisuke Nakata, 2013. "Uncertainty at the zero lower bound," Finance and Economics Discussion Series 2013-09, Board of Governors of the Federal Reserve System (U.S.).
  3. Adam, Klaus & Billi, Roberto M., 2004. "Optimal monetary policy under commitment with a zero bound on nominal interest rates," Working Paper Series 0377, European Central Bank.
  4. Lawrence Christiano & Martin Eichenbaum & Sergio Rebelo, 2009. "When is the government spending multiplier large?," NBER Working Papers 15394, National Bureau of Economic Research, Inc.
  5. Martin, Fernando M., 2010. "Markov-perfect capital and labor taxes," Journal of Economic Dynamics and Control, Elsevier, vol. 34(3), pages 503-521, March.
  6. Willem Van Zandweghe & Alexander L. Wolman, 2010. "Discretionary monetary policy in the Calvo model," Research Working Paper RWP 10-06, Federal Reserve Bank of Kansas City.
  7. King, Robert G. & Wolman, Alexander L., 2004. "Monetary discretion, pricing complementarity and dynamic multiple equilibria," Working Paper Series 0343, European Central Bank.
  8. Eric Swanson & Gauti Eggertsson, 2007. "Optimal Time-Consistent Monetary Policy in the New Keynesian Model with Repeated Simultaneous Play," 2007 Meeting Papers 214, Society for Economic Dynamics.
  9. Michelle Alexopoulos & Jon Cohen, 2009. "Uncertain Times, uncertain measures," Working Papers tecipa-352, University of Toronto, Department of Economics.
  10. Sebastian Schmidt, 2013. "Optimal Monetary and Fiscal Policy with a Zero Bound on Nominal Interest Rates," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 45(7), pages 1335-1350, October.
  11. Anton Nakov, 2006. "Optimal and Simple Monetary Policy Rules with Zero Floor on the Nominal Interest Rate," Banco de Espa�a Working Papers 0637, Banco de Espa�a.
  12. Roberto M. Billi, 2011. "Optimal Inflation for the US Economy," American Economic Journal: Macroeconomics, American Economic Association, vol. 3(3), pages 29-52, July.
  13. Taisuke Nakata, 2011. "Optimal Government Spending at the Zero Bound: Nonlinear and Non-Ricardian Analysis," 2011 Meeting Papers 831, Society for Economic Dynamics.
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Cited by:
  1. Hasui, Kohei, 2013. "The non-negative constraint on the nominal interest rate and the effects of monetary policy," MPRA Paper 49394, University Library of Munich, Germany.
  2. Jeffrey A. Frankel & Carlos A. Végh & Guillermo Vuletin, 2011. "On Graduation from Fiscal Procyclicality," NBER Working Papers 17619, National Bureau of Economic Research, Inc.
  3. Schmidt, Sebastian, 2014. "Fiscal activism and the zero nominal interest rate bound," Working Paper Series 1653, European Central Bank.
  4. Burgert, Matthias & Schmidt, Sebastian, 2013. "Dealing with a liquidity trap when government debt matters: optimal time-consistent monetary and fiscal policy," Working Paper Series 1622, European Central Bank.
  5. Eric Sims & Jonathan Wolff, 2013. "The Output and Welfare Effects of Government Spending Shocks over the Business Cycle," NBER Working Papers 19749, National Bureau of Economic Research, Inc.

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