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Should we be afraid of Friedman's rule?

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Author Info
Harald Uhlig (Humboldt University Berlin, CentER, Tilburg University and CEPR)

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Abstract

Should one think of zero nominal interest rates as an undesirable liquidity trap or as the desirable Friedman rule? I use three different frameworks to discuss this issue. First, I restate Cole and Kocherlakota's (1998) analysis of Friedman's rule: short run increases in the money stock - whether through issuing spending coupons, open market operations or foreign exchange intervention - change nothing as long as the money stock shrinks in the long run. Second, two simple ``Keynesian'' models of the inflationary process with a zero lower bound on nominal interest rates imply either that deflationary spirals should be common or that a policy close to the Friedman rule and thus some deflation is optimal. Finally, a formal ``baby-sitting coop'' model implies multiple equilibria, but does not support the injection of liquidity to restore the good equilibrium, in contrast to Krugman (1998).

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File URL: http://129.3.20.41/eps/mac/papers/0004/0004016.pdf
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Paper provided by EconWPA in its series Macroeconomics with number 0004016.

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Length: 55 pages
Date of creation: 27 Jun 2000
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Handle: RePEc:wpa:wuwpma:0004016

Note: Type of Document - .pdf; prepared on PC (TeX); to print on Acrobat Reader: print from there; pages: 55; figures: included. prepared for the TRIO conference in Japan, December 1999
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Related research
Keywords: Friedman's rule; liquidity trap; cash in advance; baby sitting coop; zero lower bound on nominal interest rates; deflation; deflationary spiral; Japan; optimal monetary policy;

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Find related papers by JEL classification:
E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money
E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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  1. Adam, Klaus & Billi, Roberto M, 2003. "Optimal Monetary Policy Under Commitment with a Zero Bound on Nominal Interest Rates," CEPR Discussion Papers 4111, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  2. Ben Hunt & Douglas Laxton, 2001. "The Zero Interest Rate Floor (ZIF) and its Implications for Monetary Policy in Japan," IMF Working Papers 01/186, International Monetary Fund. [Downloadable!]
  3. Claudio Morana, 2004. "The Japanese Deflation: Has It Had Real Effects? Could It Have Been Avoided?," ICER Working Papers 29-2004, ICER - International Centre for Economic Research. [Downloadable!]
  4. Lars E.O. Svensson, 2000. "The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap," NBER Working Papers 7957, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  5. David M. Arseneau, 2004. "Expectation traps in a New Keynesian open economy model," Finance and Economics Discussion Series 2004-45, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
  6. Peter Ireland, 2005. "EconomicDynamics Interviews Peter Ireland on Money and the Business Cycle," EconomicDynamics Newsletter, Review of Economic Dynamics, vol. 7(1), November. [Downloadable!]
  7. Mauro Boianovsky, 2003. "The IS-LM Model and the Liquidity Trap Concept: from Hicks to Krugman," Anais do XXXI Encontro Nacional de Economia [Proceedings of the 31th Brazilian Economics Meeting] a13, ANPEC - Associação Nacional dos Centros de Pósgraduação em Economia [Brazilian Association of Graduate Programs in Economics]. [Downloadable!]
  8. Alexander L. Wolman, 2003. "Real implications of the zero bound on nominal interest rates," Working Paper 03-15, Federal Reserve Bank of Richmond. [Downloadable!]
    Other versions:
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