IDEAS home Printed from https://ideas.repec.org/a/sae/smppub/v2y2013i1p1-32.html
   My bibliography  Save this article

Liquidity Trap and the Conditional Policy Commitment: An Analysis under Adaptive Learning

Author

Listed:
  • Siddhartha Chattopadhyay

    (Siddhartha Chattopadhyay, Vinod Gupta School of Management, IIT Kharagpur, India. E-mail: chattopadhyay.siddhartha@gmail.com)

Abstract

A liquidity trap is no longer a mere theoretical curiosity after Japan’s economic slump in the early 1990s and the recent global recession triggered by economic depression in the United States in 2007. Several non-standard policy alternatives have been prescribed to combat a liquidity trap. One of them is the conditional policy commitment that keeps nominal interest rate near zero depending on the state of the economy. Such a credible commitment is expected to stimulate the economy by raising asset prices. Using the principle of adaptive learning, this article analyzes the impact of a conditional policy commitment on a liquidity trap, which keeps nominal interest rate near zero when the inflation rate is below a unique threshold level. I would show that a conditional policy commitment like this eliminates a liquidity trap and the associated deflationary spiral by anchoring inflationary expectations. As a result, the targeted equilibrium becomes globally stable. JEL Classification: E63, E52, E58

Suggested Citation

  • Siddhartha Chattopadhyay, 2013. "Liquidity Trap and the Conditional Policy Commitment: An Analysis under Adaptive Learning," South Asian Journal of Macroeconomics and Public Finance, , vol. 2(1), pages 1-32, June.
    • Handle: RePEc:sae:smppub:v:2:y:2013:i:1:p:1-32
    DOI: 10.1177/2277978713482201
    as

    Download full text from publisher

    File URL: https://journals.sagepub.com/doi/10.1177/2277978713482201
    Download Restriction: no
    File URL: https://libkey.io/10.1177/2277978713482201?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    References listed on IDEAS

    as
    1. Benhabib, Jess & Schmitt-Grohe, Stephanie & Uribe, Martin, 2001. "The Perils of Taylor Rules," Journal of Economic Theory, Elsevier, vol. 96(1-2), pages 40-69, January.
    2. Ben S. Bernanke & Vincent R. Reinhart & Brian P. Sack, 2004. "Monetary Policy Alternatives at the Zero Bound: An Empirical Assessment," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 35(2), pages 1-100.
    3. Marcet, Albert & Sargent, Thomas J., 1989. "Convergence of least squares learning mechanisms in self-referential linear stochastic models," Journal of Economic Theory, Elsevier, vol. 48(2), pages 337-368, August.
    4. Bullard, James & Mitra, Kaushik, 2002. "Learning about monetary policy rules," Journal of Monetary Economics, Elsevier, vol. 49(6), pages 1105-1129, September.
    5. Ben S. Bernanke & Vincent R. Reinhart, 2004. "Conducting Monetary Policy at Very Low Short-Term Interest Rates," American Economic Review, American Economic Association, vol. 94(2), pages 85-90, May.
    6. Evans, George W. & Guse, Eran & Honkapohja, Seppo, 2008. "Liquidity traps, learning and stagnation," European Economic Review, Elsevier, vol. 52(8), pages 1438-1463, November.
    7. Fourgeaud, Claude & Gourieroux, Christian & Pradel, Jacqueline, 1986. "Learning Procedures and Convergence to Rationality," Econometrica, Econometric Society, vol. 54(4), pages 845-868, July.
    8. George William Evans, 2001. "Expectations in Macroeconomics Adaptive versus Eductive Learning," Revue économique, Presses de Sciences-Po, vol. 52(3), pages 573-582.
    9. Alan S. Blinder, 2010. "Quantitative easing: entrance and exit strategies," Review, Federal Reserve Bank of St. Louis, vol. 92(Nov), pages 465-480.
    10. Gauti B. Eggertsson & Michael Woodford, 2003. "The Zero Bound on Interest Rates and Optimal Monetary Policy," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 34(1), pages 139-235.
    11. Lars E.O. Svensson, 2003. "Escaping from a Liquidity Trap and Deflation: The Foolproof Way and Others," Journal of Economic Perspectives, American Economic Association, vol. 17(4), pages 145-166, Fall.
    12. Sargent, Thomas J., 1993. "Bounded Rationality in Macroeconomics: The Arne Ryde Memorial Lectures," OUP Catalogue, Oxford University Press, number 9780198288695.
    13. Gauti B. Eggertsson & Michael Woodford, 2003. "Optimal Monetary Policy in a Liquidity Trap," NBER Working Papers 9968, National Bureau of Economic Research, Inc.
    14. Julio J. Rotemberg, 1987. "The New Keynesian Microfoundations," NBER Chapters, in: NBER Macroeconomics Annual 1987, Volume 2, pages 69-116, National Bureau of Economic Research, Inc.
    15. Alan S. Blinder, 2010. "Quantitative easing: entrance and exit strategies," Review, Federal Reserve Bank of St. Louis, vol. 92(Nov), pages 465-480.
    16. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Chattopadhyay, Siddhartha & Ghosh, Taniya, 2020. "Taylor Rule implementation of the optimal policy at the zero lower bound: Does the cost channel matter?," Economic Modelling, Elsevier, vol. 89(C), pages 351-366.
    2. Subhasankar Chattopadhyay, 2019. "The Macroeconomics of Demonetization: Theory and Some Conjectures," South Asian Journal of Macroeconomics and Public Finance, , vol. 8(2), pages 118-143, December.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Siddartha Chattopadhyay & Betty C. Daniel, 2018. "Taylor-Rule Exit Policies for the Zero Lower Bound," International Journal of Central Banking, International Journal of Central Banking, vol. 14(5), pages 1-53, December.
    2. Chattopadhyay, Siddhartha & Daniel, Betty C., 2014. "The Inflation Target at the Zero Lower Bound," MPRA Paper 66096, University Library of Munich, Germany.
    3. Evans, George W. & Honkapohja, Seppo, 2009. "Expectations, deflation traps and macroeconomic policy," Bank of Finland Research Discussion Papers 24/2009, Bank of Finland.
    4. George W. Evans & Seppo Honkapohja, 2009. "Expectations, Learning and Monetary Policy: An Overview of Recent Research," Central Banking, Analysis, and Economic Policies Book Series, in: Klaus Schmidt-Hebbel & Carl E. Walsh & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Series (ed.),Monetary Policy under Uncertainty and Learning, edition 1, volume 13, chapter 2, pages 027-076, Central Bank of Chile.
    5. Hess Chung & Jean‐Philippe Laforte & David Reifschneider & John C. Williams, 2012. "Have We Underestimated the Likelihood and Severity of Zero Lower Bound Events?," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 44(s1), pages 47-82, February.
    6. Siddhartha Chattopadhyay, 2021. "The Neo-Fisherianism to Escape Zero Lower Bound," International Symposia in Economic Theory and Econometrics, in: Environmental, Social, and Governance Perspectives on Economic Development in Asia, volume 29, pages 1-19, Emerald Group Publishing Limited.
    7. Matteo Falagiarda, 2014. "Evaluating quantitative easing: a DSGE approach," International Journal of Monetary Economics and Finance, Inderscience Enterprises Ltd, vol. 7(4), pages 302-327.
    8. John C. Williams, 2009. "Heeding Daedalus: Optimal Inflation and the Zero Lower Bound," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 40(2 (Fall)), pages 1-49.
    9. repec:zbw:bofrdp:2007_032 is not listed on IDEAS
    10. Francois John Nana, 2020. "Foreign official holdings of US treasuries, stock effect and the economy: a DSGE approach," The B.E. Journal of Macroeconomics, De Gruyter, vol. 20(1), pages 1-28, January.
    11. Arifovic, Jasmina & Schmitt-Grohé, Stephanie & Uribe, Martín, 2018. "Learning to live in a liquidity trap," Journal of Economic Dynamics and Control, Elsevier, vol. 89(C), pages 120-136.
    12. Seppo Honkapohja, 2016. "Monetary policies to counter the zero interest rate: an overview of research," Empirica, Springer;Austrian Institute for Economic Research;Austrian Economic Association, vol. 43(2), pages 235-256, May.
    13. Goy, Gavin & Hommes, Cars & Mavromatis, Kostas, 2022. "Forward guidance and the role of central bank credibility under heterogeneous beliefs," Journal of Economic Behavior & Organization, Elsevier, vol. 200(C), pages 1240-1274.
    14. George W. Evans, 2008. "Monetary and Fiscal Policy under Learning in the Presence of a Liquidity Trap," Monetary and Economic Studies, Institute for Monetary and Economic Studies, Bank of Japan, vol. 26, pages 59-86, December.
    15. George W. Evans & Seppo Honkapohja & Kaushik Mitra, 2022. "Expectations, Stagnation, And Fiscal Policy: A Nonlinear Analysis," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 63(3), pages 1397-1425, August.
    16. Roberto M. Billi, 2011. "Optimal Inflation for the US Economy," American Economic Journal: Macroeconomics, American Economic Association, vol. 3(3), pages 29-52, July.
    17. George W. Evans & Seppo Honkapohja, 2009. "Expectations, Learning and Monetary Policy: An Overview of Recent Research," Central Banking, Analysis, and Economic Policies Book Series, in: Klaus Schmidt-Hebbel & Carl E. Walsh & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Series (ed.),Monetary Policy under Uncertainty and Learning, edition 1, volume 13, chapter 2, pages 027-076, Central Bank of Chile.
    18. repec:zbw:bofrdp:2009_024 is not listed on IDEAS
    19. Benhabib, Jess & Evans, George W. & Honkapohja, Seppo, 2014. "Liquidity traps and expectation dynamics: Fiscal stimulus or fiscal austerity?," Journal of Economic Dynamics and Control, Elsevier, vol. 45(C), pages 220-238.
    20. Guido Ascari & Argia M. Sbordone, 2014. "The Macroeconomics of Trend Inflation," Journal of Economic Literature, American Economic Association, vol. 52(3), pages 679-739, September.
    21. Hommes, Cars, 2018. "Behavioral & experimental macroeconomics and policy analysis: a complex systems approach," Working Paper Series 2201, European Central Bank.
    22. Gábor Dávid Kiss & Mercédesz Mészáros, 2020. "Gravity Among Central Bank Balance Sheets: Monetary Policy Spill-Over on FX Volatility," Econometric Research in Finance, SGH Warsaw School of Economics, Collegium of Economic Analysis, vol. 5(1), pages 33-57, June.

    More about this item

    Keywords

    Adaptive learning; monetary policy; fiscal policy; zero interest rate lower bound;
    All these keywords.

    JEL classification:

    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:sae:smppub:v:2:y:2013:i:1:p:1-32. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: SAGE Publications (email available below). General contact details of provider: .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.