Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/248740 
Year of Publication: 
2021
Series/Report no.: 
Deutsche Bundesbank Discussion Paper No. 55/2021
Publisher: 
Deutsche Bundesbank, Frankfurt a. M.
Abstract: 
We show that if business cycles are driven by financial shocks, the interplay between the effective lower bound (ELB) and the costs of external financing can generate an additional supply-side channel, which causes a disconnect between inflation and output. In normal times, factor costs dominate firms' marginal costs and hence inflation; credit spreads and the nominal interest rate, which together constitute external financing costs, balance out in response to a financial shock. When nominal rates are constrained by the ELB, larger spreads can partly offset the effect of lower factor costs on firms' price setting. The Phillips curve is hence flat at the ELB, but features a positive slope in normal times and thus an overall hockey stick shape. This mechanism also weakens the effects of forward guidance on inflation, since such policy reduces spreads and thereby financing costs.
Subjects: 
Phillips curve
financial frictions
effective lower bound
disinflation
forward guidance
JEL: 
C62
C63
E31
E32
E44
E52
E58
E63
ISBN: 
978-3-95729-865-2
Document Type: 
Working Paper

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