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Self-fulfilling deflations

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  • Roberto Piazza

    () (Banca d'Italia)

Abstract

What types of monetary and fiscal policy rules produce self-fulfilling deflationary paths that are monotonic and empirically relevant? This paper presents simple theoretical conditions that guarantee the existence of these paths in a general equilibrium model with sticky prices. These sufficient conditions are weak enough to be satisfied by most monetary and fiscal policy rules. A quantification of the model which combines a real shock à la Hayashi and Prescott (2002) with a simultaneous sunspot that deanchors inflation expectations matches the main empirical features of the Japanese deflationary process during the “lost decade”. The results also highlight the key role of the assumption about the anchoring of inflation expectations for the size of fiscal multipliers and, in general, for any policy analysis.

Suggested Citation

  • Roberto Piazza, 2016. "Self-fulfilling deflations," Temi di discussione (Economic working papers) 1080, Bank of Italy, Economic Research and International Relations Area.
  • Handle: RePEc:bdi:wptemi:td_1080_16
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    References listed on IDEAS

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    Cited by:

    1. Locarno, Alberto & Delle Monache, Davide & Busetti, Fabio & Gerali, Andrea, 2017. "Trust, but verify. De-anchoring of inflation expectations under learning and heterogeneity," Working Paper Series 1994, European Central Bank.
    2. Armenter, Roc, 2013. "The perils of nominal targets," Working Papers 14-2, Federal Reserve Bank of Philadelphia, revised 04 Feb 2014.
    3. Roberto Piazza, 2015. "Deflation expectations and Japan's lost decade," Questioni di Economia e Finanza (Occasional Papers) 274, Bank of Italy, Economic Research and International Relations Area.

    More about this item

    Keywords

    deflation; liquidity trap; deanchoring; inflation target; sunspot;

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects

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