DP4599 Credible Commitment to Optimal Escape from a Liquidity Trap: The Role of the Balance Sheet of an Independent Central Bank

Author(s): Olivier Jeanne, Lars E.O. Svensson
Publication Date: September 2004
Keyword(s): deflation, zero lower bound for interest rates
JEL(s): E52, F31, F41
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=4599

An independent central bank can manage its balance sheet and its capital so as to commit itself to a depreciation of its currency and an exchange-rate peg. This way, the central bank can implement the optimal escape from a liquidity trap, which involves a commitment to higher future inflation. This commitment mechanism works even though, realistically, the central bank cannot commit itself to a particular future money supply. It supports the feasibility of Svensson?s Foolproof Way to escape from a liquidity trap.