Monetary and Fiscal Remedies for Deflation
13 Pages Posted: 16 Aug 2010 Last revised: 13 Feb 2022
Date Written: February 2004
Abstract
Prevalent thinking about liquidity traps suggests that the perfect substitutability of money and bonds at a zero short-term nominal interest rate renders open-market operations ineffective for achieving macroeconomic stabilization goals. In an earlier paper, we showed that this reasoning does not hold, that open-market operations can provide substantial macroeconomic benefits and facilitate the use of powerful fiscal policy tools even in a liquidity trap. In this paper, we consider an alternative approach that has been suggested for use in a liquidity trap, a scheduled increase in consumption tax rates. We find that such a policy could, indeed, increase short-run consumption, but would be less effective at increasing welfare or accelerating a country's exit from a liquidity trap. Though a variant of this tax policy might induce exit from a liquidity trap, the impact of welfare is negative in this case as well. We also argue that this alternative tax-rate-based approach is subject to more severe credibility problems than the monetary policy approach explored in our original paper.
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
Monetary Policy Alternatives at the Zero Bound: An Empirical Assessment
By Ben S. Bernanke, Vincent R. Reinhart, ...
-
The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap
-
Theoretical Analysis Regarding a Zero Lower Bound on Nominal Interest Rates
-
Real Implications of the Zero Bound on Nominal Interest Rates
-
By Jess Benhabib, Stephanie Schmitt-grohé, ...
-
By Jess Benhabib, Stephanie Schmitt-grohé, ...
-
Escaping from a Liquidity Trap and Deflation: The Foolproof Way and Others
-
Monetary Policy When the Nominal Short-Term Interest Rate is Zero
By James A. Clouse, Dale W. Henderson, ...