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Three lessons for monetary policy in a low-inflation era

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  • David Reifschneider
  • John C. Williams

Abstract

The zero lower bound on nominal interest rates constrains the central bank's ability to stimulate the economy during downturns. We use the FRB/US model to quantify the effects of the zero bound on macroeconomic stabilization and to explore how policy can be designed to minimize these effects. During particularly severe contractions, open-market operations alone may be insufficient to restore equilibrium; some other stimulus is needed. Abstracting from such rare events, if policy follows the Taylor rule and targets a zero-inflation rate, there is a significant increase in the variability of output but not inflation. However, a simple modification to the Taylor rule yields a dramatic reduction in the detrimental effects of the zero bound.

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Article provided by Federal Reserve Bank of Boston in its journal Conference Series ; [Proceedings].

Volume (Year): (2000)
Issue (Month): ()
Pages: 936-978

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Handle: RePEc:fip:fedbcp:y:2000:p:936-978
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Keywords: Monetary policy ; Inflation (Finance) ; Interest rates;

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  1. Henderson, Dale W. & McKibbin, Warwick J., 1993. "A comparison of some basic monetary policy regimes for open economies: implications of different degrees of instrument adjustment and wage persistence," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 221-317, December.
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