The Zero Bound on Interest Rates and Optimal Monetary Policy
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.
Volume (Year): 34 (2003)
Issue (Month): 1 ()
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- Ben S. Bernanke & Julio J. Rotemberg (ed.), 1997. "NBER Macroeconomics Annual 1997," MIT Press Books, The MIT Press, edition 1, volume 1, number 026252242x, March.
- Ben S. Bernanke & Julio J. Rotemberg, 1997. "Editorial in "NBER Macroeconomics Annual 1997, Volume 12"," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 1-6 National Bureau of Economic Research, Inc.
- Wallace, Neil, 1981. "A Modigliani-Miller Theorem for Open-Market Operations," American Economic Review, American Economic Association, vol. 71(3), pages 267-74, June.
- Ben S. Bernanke & Julio J. Rotemberg, 1997. "NBER Macroeconomics Annual 1997, Volume 12," NBER Books, National Bureau of Economic Research, Inc, number bern97-1, September.
- Lawrence H. Summers, 1991. "Panel discussion: price stability ; How should long-term monetary policy be determined?," Proceedings, Federal Reserve Bank of Cleveland, pages 625-631.
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