Title: Lack of confidence, the zero lower bound, and the virtue of fiscal rules
Abstract: In the presence of the zero lower bound, standard business cycle models with a Taylor-type monetary policy rule are prone to equilibrium multiplicity. A drop in confidence can drive the economy into a liquidity trap without any change in fundamentals. Using a prototypical sticky-price model, I show that Ricardian fiscal spending rules that prevent real marginal costs from declining in the face of a confidence shock insulate the economy from such expectations-driven liquidity traps. JEL Classification: E52, E62
Publication Year: 2015
Publication Date: 2015-05-01
Language: en
Type: preprint
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