Lecture 12 Slides

Lecture 12 Slides - Economics 134 Spring 2012 Christina...

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L ECTURE 12 Zero Lower Bound in Practice February 23, 2012 Economics 134 Christina Romer Spring 2012 David Romer
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Announcements Problem Set 2 is due on Tuesday, Feb. 28. Midterm is two weeks from today: March 8.
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Plan for the Lecture Review IS-MP framework at zero lower bound. Discuss strategies for dealing with the zero lower bound. Discuss three cases where economies were at the zero lower bound and what they did about it: Japan in the 1990s and 2000s. U.S. in the 1930s. U.S. since 2008.
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I. R EVIEW OF THE IS-MP F RAMEWORK AT THE Z ERO L OWER B OUND
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Key Assumption: The nominal interest rate cannot be negative The central bank would like to set r = r(Y, π ). Since the real interest rate, r, equals i – π e , this means that r cannot be less than 0 – π e . Thus: + = otherwise π 0 0 π π) , Y ( r if ) π , Y ( r r e e
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The IS and MP Curves Accounting for the Zero Lower Bound: Step 1 Y r r(Y, π ) 0 – π e IS
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The IS and MP Curves Accounting for the Zero Lower Bound: Step 2 Y r MP 0 – π e IS
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II. S TRATEGIES FOR D EALING WITH THE Z ERO L OWER B OUND
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Suppose we are at the zero lower bound because of a collapse of IS: Y r MP 0 0 – π e 0 IS 0 Y 0 Y
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Solution 1: Expansionary Fiscal Policy Y r MP 0 0 – π e 0 IS 0 Y 0
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Solution 1: Expansionary Fiscal Policy Y r MP 0 0 – π e 0 IS 0 Y 0 IS 1 Y 1
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Quantitative Easing Non-standard open market operations. Central bank usually buys short-term government bonds. Could buy long-term government bonds, mortgage-backed securities, private bonds, etc. Typically done with the short-term policy rate is at zero.
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Effects of Quantitative Easing Raise the price of assets being purchased. This will likely have a wealth or balance sheet effect. Lower longer-term interest rates. Flatten the yield curve. Typically done with the short-term policy rate is at zero. Raise expected inflation.
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Solution 2: Lower Long-Term Rates through Quantitative Easing Y r MP 0 0 – π e 0 IS 0 Y 0
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Solution 2: Lower Long-Term Rates through Quantitative Easing Y r MP 0 0 – π e 0 IS 0 Y 0 IS 1 Y 1
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Communications Policy Central bank commits itself to certain actions. For example, it might promise to keep short-
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This note was uploaded on 02/28/2012 for the course ECON 134 taught by Professor Davidromer during the Spring '12 term at Berkeley.

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Lecture 12 Slides - Economics 134 Spring 2012 Christina...

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