Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/211955 
Year of Publication: 
2003
Series/Report no.: 
Bank of Finland Discussion Papers No. 22/2003
Publisher: 
Bank of Finland, Helsinki
Abstract: 
In this paper we consider inflation and government debt dynamics when monetary policy employs a global interest rate rule and private agents' forecasts using adaptive learning.Because of the zero lower bound on interest rates, active interest rate rules are known to imply the existence of a second, low inflation steady state, below the target inflation rate.Under adaptive learning dynamics we find the additional possibility of a liquidity trap, in which the economy slips below this low inflation steady state and is driven to an even lower inflation floor which, in turn, is supported by a switch to an aggressive money supply rule.Fiscal policy alone cannot push the economy out of the liquidity trap. However, raising the threshold at which the money supply rule is employed can dislodge the economy from the liquidity trap and ensure a return to the target equilibrium.
Subjects: 
stability of equilibria
fiscal and monetary policy
interest rate and money supply rules
JEL: 
E63
E52
E58
Persistent Identifier of the first edition: 
ISBN: 
952-462-080-4
Document Type: 
Working Paper

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