Oil Shocks and the Zero Bound on Nominal Interest Rates
52 Pages Posted: 14 Nov 2010
Date Written: October 25, 2010
Beginning in 2009, in many advanced economies, policy rates reached their zero lower bound (ZLB). Almost at the same time, oil prices started rising again. We analyze how the ZLB affects the propagation of oil shocks. As these shocks move inflation and output in opposite directions, their effects on economic activity are cushioned when monetary policy is constrained. The burst of inflation from an oil price increase lowers real interest rates at the ZLB and stimulates the interest-sensitive component of GDP, offsetting the usual contractionary effects. In fact, if the increase in oil prices is gradual, the persistent rise in inflation can cause a GDP expansion.
Keywords: Oil Shocks, zero lower bound, DSGE models
JEL Classification: F32, F41
Suggested Citation: Suggested Citation