Credible Commitment to Optimal Escape from a Liquidity Trap: The Role of the Balance Sheet of an Independent Central Bank
September 1, 2004
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Summary
An independent central bank can manage its balance sheet and its capital so as to commit itself to a depreciation of its currency and an exchange rate peg. This way, the central bank can implement the optimal escape from a liquidity trap, which involves a commitment to higher future inflation. This commitment mechanism works even though, realistically, the central bank cannot commit itself to a particular future money supply. It supports the feasibility of Svensson's Foolproof Way to escape from a liquidity trap.
Subject: Asset and liability management, Banking, Capital adequacy requirements, Currencies, Exchange rates, Financial regulation and supervision, Foreign exchange, Inflation, Liquidity, Money, Prices
Keywords: balance-sheet concern, budget constraint, Capital adequacy requirements, central-bank capital, Currencies, deflation, Exchange rates, Inflation, Liquidity, mover accent, optimization problem, output gap, price level, WP, Zero lower bound for interest rates
Pages:
44
Volume:
2004
DOI:
Issue:
162
Series:
Working Paper No. 2004/162
Stock No:
WPIEA1622004
ISBN:
9781451857900
ISSN:
1018-5941
