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Time‐Consistent Management of a Liquidity Trap with Government Debt

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  • DMITRY MATVEEV

Abstract

I show that debt maturity considerations affect the optimal conduct of monetary and fiscal policy in the presence of lower bound episodes. I consider a New Keynesian model where the lower bound on nominal interest rates binds occasionally. I study optimal monetary and fiscal policy under discretion, characterizing the strategic use of government debt as a tool to affect expectations of real interest rates and inflation. During lower bound episodes, the presence of long‐term bonds makes it optimal to temporarily consolidate debt. In addition, the long‐run level of debt increases with both the likelihood of reaching the lower bound and the maturity of debt.

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  • Dmitry Matveev, 2021. "Time‐Consistent Management of a Liquidity Trap with Government Debt," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 53(8), pages 2129-2165, December.
    • Handle: RePEc:wly:jmoncb:v:53:y:2021:i:8:p:2129-2165
    DOI: 10.1111/jmcb.12820
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    Cited by:

    1. Leeper, Eric M. & Leith, Campbell & Liu, Ding, 2021. "Optimal Time-Consistent Monetary, Fiscal and Debt Maturity Policy," Journal of Monetary Economics, Elsevier, vol. 117(C), pages 600-617.
    2. Harrison, Richard, 2021. "Flexible inflation targeting with active fiscal policy," Bank of England working papers 928, Bank of England.
    3. Taisuke Nakata, 2017. "Optimal Government Spending at the Zero Lower Bound: A Non-Ricardian Analysis," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 23, pages 150-169, January.
    4. Taisuke Nakata, 2017. "Optimal Government Spending at the Zero Lower Bound: A Non-Ricardian Analysis," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 23, pages 150-169, January.
    5. Guillermo Santos, 2022. "Optimal fiscal policy and the Fiscal Theory of the Price Level," LIDAM Discussion Papers IRES 2022022, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
    6. de Beauffort, Charles, 2023. "When is government debt accumulation optimal in a liquidity trap?," Journal of Economic Dynamics and Control, Elsevier, vol. 147(C).
    7. Séverine Menguy, 2016. "Optimal Budgetary Policies in New-Keynesian Models: Can they help when the Zero Lower Bound is binding?," Bulletin of Applied Economics, Risk Market Journals, vol. 3(2), pages 43-98.

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    More about this item

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy

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