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Cooperative fiscal policy at the zero lower bound

Authors Cook, David E. View this author's profile
Devereux, M.B.
Issue Date 2011
Source Journal of the Japanese and international economies , v. 25, (4), 2011, p. 465-486
Summary This paper investigates the use of fiscal policy in response to a large negative aggregate demand shock which may push the global economy into a liquidity trap. Fiscal policy may be an effective tool to respond to a liquidity trap, but its international spillover effects may operate quite differently from its domestic effects. We derive the optimal cooperative fiscal response to a global liquidity trap in a two country world economy. Surprisingly, we find that the optimal fiscal spending response for a partner country to a negative aggregate demand shock in a source country may be negative. If fiscal policy can be chosen under policy commitment, the optimal response involves current fiscal expansion combined with future fiscal contraction, after the liquidity trap has ended. © 2011 Elsevier Inc.
ISSN 0889-1583
Language English
Format Article
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