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Reputation and Liquidity Traps

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  • Taisuke Nakata

    (Federal Reserve Board)

Abstract

This paper studies credible policies in a New Keynesian economy in which the nominal interest rate is subject to the ZLB constraint and contractionary shocks hit the economy occasionally. The Ramsey policy involves keeping the policy rate low even after the shock disappears, but the central bank would be tempted to raise the rate to close consumption and inflation gaps if it could re-optimize. I find that the Ramsey policy is credible if the contractionary shock occurs sufficiently frequently. In the best credible plan, if the central bank reneges on the promise of low policy rates, it will lose reputation and the private sector will not believe such promises in future recessions. When the shock hits the economy sufficiently frequently, the incentive to maintain reputation outweighs the short-run incentive to close consumption and inflation gaps, and keeps the central bank on the originally announced path of low nominal interest rates.

Suggested Citation

  • Taisuke Nakata, 2014. "Reputation and Liquidity Traps," 2014 Meeting Papers 61, Society for Economic Dynamics.
  • Handle: RePEc:red:sed014:61
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Boneva, Lena & Harrison, Richard & Waldron, Matt, 2015. "Threshold-based forward guidance: hedging the zero bound," Bank of England working papers 561, Bank of England.
    2. Taisuke Nakata & Sebastian Schmidt, 2014. "Conservatism and Liquidity Traps," UTokyo Price Project Working Paper Series 059, University of Tokyo, Graduate School of Economics, revised Jul 2015.
    3. Tambakis, Demosthenes N., 2015. "Determinate liquidity traps," Economics Letters, Elsevier, vol. 135(C), pages 126-132.
    4. Taisuke Nakata & Sebastian Schmidt, . "Gradualism and Liquidity Traps," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics.
    5. Michael Lamla & Damjan Pfajfar & Lea Rendell, 2018. "Confidence in Central Banks and Inflation Expectations," 2018 Meeting Papers 945, Society for Economic Dynamics.
    6. Taisuke Nakata & Sebastian Schmidt, . "Gradualism and Liquidity Traps," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics.
    7. Mitsuru Katagiri, 2016. "Forward Guidance as a Monetary Policy Rule," Bank of Japan Working Paper Series 16-E-6, Bank of Japan.
    8. Sunakawa, Takeki, 2015. "A quantitative analysis of optimal sustainable monetary policies," Journal of Economic Dynamics and Control, Elsevier, vol. 52(C), pages 119-135.

    More about this item

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
    • 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

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