DP13334 Neo-Fisherian Policies and Liquidity Traps

Author(s): Florin Ovidiu Bilbiie
Publication Date: November 2018
Date Revised: November 2018
Keyword(s): confidence and fundamental liquidity traps, Fiscal multipliers, forward guidance, monetary policy, neo-Fisherian, optimal policy
JEL(s): E3, E4, E5, E6
Programme Areas: Monetary Economics and Fluctuations
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=13334

Liquidity traps can be either fundamental, or confidence-driven. In a simple unified New-Keynesian framework, I provide the analytical condition for the latter's prevalence: enough shock persistence and endogenous intertemporal amplification of future ("news") shocks, making income effects dominate substitution effects. The same condition governs Neo-Fisherian effects (expansionary-inflationary interest-rate increases) which are thus inherent in confidence traps. Several monetary-fiscal policies (forward guidance, interest rate increases, public spending, labor-tax cuts) have diametrically opposed effects according to the trap variety. This duality provides testable implications to disentangle between trap types; that is essential, for optimal policies are likewise diametrically opposite.