48 Pages Posted: 16 Nov 1999
Date Written: August 26, 1999
The zero lower bound on nominal interest rates constrains the central bank's ability to stimulate the economy during downturns. We use the FRB/US model to quantify the effects of the bound on macroeconomic stabilization and to explore how policy can be designed to minimize these effects. During particularly severe contractions, open-market operations alone may be insufficient to restore equilibrium; some other stimulus is needed. Abstracting from such rare events, if policy follows the Taylor rule and targets a zero inflation rate, there is a significant increase in the variability of output but not inflation. However, a simple modification to the Taylor rule yields a dramatic reduction in the detrimental effects of the zero bound.
JEL Classification: E52, F41
Suggested Citation: Suggested Citation
Reifschneider, David and Williams, John C., Three Lessons for Monetary Policy In a Low Inflation Era (August 26, 1999). FEDS Working Paper No. 99-44. Available at SSRN: https://ssrn.com/abstract=186013 or http://dx.doi.org/10.2139/ssrn.186013