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American Economic Journal: Macroeconomics: Vol. 5 No. 3 (July 2013)

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Sharing the Burden: Monetary and Fiscal Responses to a World Liquidity Trap

Article Citation

Cook, David, and Michael B. Devereux. 2013. "Sharing the Burden: Monetary and Fiscal Responses to a World Liquidity Trap." American Economic Journal: Macroeconomics, 5(3): 190-228.

DOI: 10.1257/mac.5.3.190

Abstract

This paper analyzes optimal policy responses to a global liquidity trap. The key feature of this environment is that relative prices respond perversely. A fall in demand in one country causes an appreciation of its terms of trade, exacerbating the initial shock. At the zero bound, this country cannot counter this shock. Then it may be optimal for the partner country to raise interest rates. The partner may set a positive policy interest rate, even though its “natural interest rate” is below zero. An optimal policy response requires a mutual interaction between monetary and fiscal policy.

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Authors

Cook, David (Hong Kong U Science and Technology)
Devereux, Michael B. (U British Columbia)

JEL Classifications

E12: General Aggregative Models: Keynes; Keynesian; Post-Keynesian
E32: Business Fluctuations; Cycles
E44: Financial Markets and the Macroeconomy
E52: Monetary Policy
E62: Fiscal Policy
F44: International Business Cycles
G01: Financial Crises

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American Economic Journal: Macroeconomics


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