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Expectation traps and Neo-Fisherian policy

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  • Robbins, Jacob A.

Abstract

Periods of low interest rates and subdued inflation in advanced economies have raised the prospect of expectation traps, in which self-fulfilling pessimistic beliefs sustain recessions. This paper examines the stability and policy implications of expectation-driven recessions when agents deviate from rational expectations. We build an overlapping generations model in which belief shocks generate endogenous fluctuations in output and inflation, and show that persistent stagnation equilibria exist under bounded rationality. Optimal policy depends on the strength of feedback between current and expected income. With weak feedback, Keynesian policies— lower interest rates and higher government spending— are effective. With strong feedback, escaping the trap requires Neo-Fisherian policies— pegging interest rates and reduced fiscal spending.

Suggested Citation

  • Robbins, Jacob A., 2026. "Expectation traps and Neo-Fisherian policy," Journal of Economic Dynamics and Control, Elsevier, vol. 183(C).
    • Handle: RePEc:eee:dyncon:v:183:y:2026:i:c:s016518892500212x
    DOI: 10.1016/j.jedc.2025.105246
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    JEL classification:

    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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