July 2018

Speed Limit Policy and Liquidity Traps

Taisuke Nakata, Sebastian Schmidt, and Paul Yoo


The zero lower bound (ZLB) constraint on interest rates makes speed limit policies (SLPs)--policies aimed at stabilizing the output growth--less effective. Away from the ZLB, the history dependence induced by a concern for output growth stabilization improves the inflation-output tradeoff for a discretionary central bank. However, in the aftermath of a deep recession with a binding ZLB, a central bank with an objective for output growth stabilization aims to engineer a more gradual increase in output than under the standard discretionary policy. The anticipation of a more restrained recovery exacerbates the declines in inflation and output when the lower bound is binding.
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Keywords: Liquidity Traps, Markov-Perfect Equilibrium, Speed Limit Policy, Zero Lower Bound.

DOI: https://doi.org/10.17016/FEDS.2018.050

PDF: Full Paper

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Last Update: January 09, 2020