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Bond Premium Cyclicality and Liquidity Traps

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  • Sanjay R. Singh
  • Nicolas Caramp

    (Department of Economics, University of California Davis)

Abstract

Safe asset shortages can expose the economy to liquidity traps. The nature of these traps is determined by the cyclicality of the bond premium. Self-fulfilling liquidity traps are associated with a counter-cyclical bond premium. Small issuances of government debt crowd out private debt and exacerbate these pessimism-driven recessions. In contrast, fundamental liquidity traps arise under a pro-cyclical bond premium and government debt is expansionary. In the data, we find evidence of a counter-cyclical bond premium and a pro-cyclical supply of safe assets. We propose robust policies that prevent the existence of self-fulfilling traps and are expansionary in fundamental traps.

Suggested Citation

  • Sanjay R. Singh & Nicolas Caramp, 2020. "Bond Premium Cyclicality and Liquidity Traps," Working Papers 336, University of California, Davis, Department of Economics.
    • Handle: RePEc:cda:wpaper:336
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    2. Luca Fornaro & Martin Wolf, 2021. "Monetary policy in the age of automation," Economics Working Papers 1794, Department of Economics and Business, Universitat Pompeu Fabra, revised Sep 2022.
    3. Wang, Yijing, 2022. "A Liquidity-based Resolution to the Dividend Puzzle," MPRA Paper 115560, University Library of Munich, Germany.
    4. Marco Cozzi, 2024. "An Aggression-Consistent Implementation of the Hamilton Filter," Department Discussion Papers 2401, Department of Economics, University of Victoria.

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    More about this item

    Keywords

    bond premium; safe assets; liquidity trap;
    All these keywords.

    JEL classification:

    • E0 - Macroeconomics and Monetary Economics - - General
    • E1 - Macroeconomics and Monetary Economics - - General Aggregative Models
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • 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

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