Reputation and Liquidity Traps

Nakata, Taisuke

doi:10.17016/feds.2014.50

FEDS

2014

DOI: 10.17016/feds.2014.50

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Reputation and Liquidity Traps

Taisuke Nakata

Abstract: Can the central bank credibly commit to keeping the nominal interest rate low for an extended period of time in the aftermath of a deep recession? By analyzing credible plans in a sticky-price economy with occasionally binding zero lower bound constraints, I find that the answer is yes if contractionary shocks hit the economy with sufficient frequency. 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 … Show more

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Cited by 13 publications

(13 citation statements)

References 24 publications

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“…As the review by Lars Svensson (2010) suggests, central banks have stuck to their inflation targets during extended periods, including across turnovers in the leadership of the central bank, suggesting a role for the reputation of the institution, not just the individuals in place, in shaping the reputational forces that influence the credibility of commitments. 25 Nakata (2014) has discussed how such reputational effects may make a post-ELB commitment policy credible.…”

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confidence: 99%

Monetary Policy in a Low Interest Rate World

Kiley¹,

Roberts²

2017

Brookings Papers on Economic Activity

183

169

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Nominal interest rates may remain substantially below the averages of the last half century, because central banks' inflation objectives lie below the average level of inflation, and estimates of the real interest rate that are likely to prevail over the long run fall notably short of the average real interest rate experienced during this period. Persistently low nominal interest rates may lead to more frequent and costly episodes at the effective lower bound (ELB) on nominal interest rates. We revisit the frequency and potential costs of such episodes in a world of low interest rates, using both a dynamic stochastic general equilibrium (DSGE) model and the Federal Reserve's largescale econometric model, the FRB/US model. Four main conclusions emerge. First, monetary policy strategies based on traditional, simple policy rules lead to poor economic performance when the equilibrium interest rate is low, with economic activity and inflation more volatile and systematically falling short of desirable levels. Moreover, the frequency and length of ELB episodes under such policy approaches are estimated to be significantly higher than in previous studies. Second, a risk adjustment to a simple rule-whereby monetary policymakers are more accommodative, on average, than prescribed by the rule-ensures that inflation averages its 2 percent objective, and requires that policymakers systematically seek inflation near 3 percent when the ELB is not binding. Third, commitment strategies, whereby monetary accommodation is not removed until either inflation or economic activity overshoots its longrun objective, are very effective in both the DSGE and FRB/US models. And

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confidence: 99%

Monetary Policy in a Low Interest Rate World

Kiley¹,

Roberts²

2017

Brookings Papers on Economic Activity

183

169

View full text Add to dashboard Cite

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“…The history dependence embodied in optimal commitment policy or the inertial Taylor rule with lagged shadow policy rate is time‐inconsistent, as discussed by Werning () and Nakata (), among others. Some policymakers have stated that this time‐inconsistency problem limits the extent to which the central bank can adopt history‐dependent policies (see the list of quotes from policymakers in Nakata 2015).…”

mentioning

confidence: 99%

Fiscal Multipliers at the Zero Lower Bound: The Role of Policy Inertia

Hills¹,

Nakata²

2018

J of Money Credit Banking

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The presence of the lagged shadow policy rate in the interest rate feedback rule reduces the government spending multiplier nontrivially when the policy rate is constrained at the zero lower bound (ZLB). In the economy with policy inertia, increased inflation and output due to higher government spending during a recession speed up the return of the policy rate to the steady state after the recession ends, which in turn damps the expansionary effects of the government spending during the recession via expectations. In our baseline experiment intended to capture the effectiveness of the American Recovery and Reinvestment Act of 2009, the output multiplier at the ZLB is 1.9 when the weight on the lagged shadow rate is zero, and 0.5 when the weight is 0.85.

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“…2. The history dependence embodied in optimal commitment policy or the inertial Taylor rule with lagged shadow policy rate is time-inconsistent, as discussed by Werning (2012) and Nakata (2014), among others. Some policymakers have stated that this time-inconsistency problem limits the extent to which the central bank can adopt history-dependent policies (see the list of quotes from policymakers in Nakata 2015).…”

mentioning

confidence: 99%

“…Some policymakers have stated that this time-inconsistency problem limits the extent to which the central bank can adopt history-dependent policies (see the list of quotes from policymakers in Nakata 2015). Several authors have studied ways to make this history-dependent policy time-consistent (see, e.g., Nakata 2014, Berriel and Mendes 2015, Bhattarai, Eggertsson, and Gafarov 2015. policy rate is constrained at the ZLB than when it is not, and that the multiplier is less than one at the ZLB.…”

mentioning

confidence: 99%

Fiscal Multipliers at the Zero Lower Bound: The Role of Policy Inertia

Hills

Nakata

2014

FEDS

Self Cite

View full text Add to dashboard Cite

The presence of the lagged shadow policy rate in the interest rate feedback rule reduces the government spending multiplier nontrivially when the policy rate is constrained at the zero lower bound (ZLB). In the economy with policy inertia, increased inflation and output due to higher government spending during a recession speed up the return of the policy rate to the steady state after the recession ends. This in turn dampens the expansionary effects of the government spending during the recession via expectations. In our baseline calibration, the output multiplier at the ZLB is 2.5 when the weight on the lagged shadow rate is zero, and 1.1 when the weight is 0.9.

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Reputation and Liquidity Traps

Cited by 13 publications

References 24 publications

Monetary Policy in a Low Interest Rate World

Monetary Policy in a Low Interest Rate World

Fiscal Multipliers at the Zero Lower Bound: The Role of Policy Inertia

Fiscal Multipliers at the Zero Lower Bound: The Role of Policy Inertia

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