Liquidity Traps Gesell’s Solution

An economy is in a liquidity trap when monetary policy cannot influence either real or nominal variables of interest. A necessary condition for this is that the short nominal interest rate is constrained by its lower bound, typically zero. The paper develops a small analytical model to show how an economy can get into a liquidity trap, how it can avoid getting into one and how it can get out. To avoid the risk of falling into a liquidity trap, or to escape from one, the authorities can remove the zero nominal interest rate floor, by adopting an augmented monetary rule that systematically keeps the own nominal interest rate on currency below the nominal interest rate on non-monetary instruments. This involves paying interest, negative or positive, on certain government 'bearer bonds' -coin and currency, that is, 'taxing money', as advocated by Gesell. There are likely to be significant shoe leather costs associated with any scheme to tax currency. Willem H. Buiter, European Bank for Reconstruction and Development, One Exchange Square, London EC2A 2JN, UK. Tel: #44-20-73386805 Fax:#44-20-73386110/111 E-mail (office): buiterw@ebrd.com E-mail (home): willembuiter@netscapeonline.co.uk Home page: http://www.nber.org/wbuiter/ Nikolaos Panigirtzoglou, Bank of England, Threadneedle Street, London EC2R 8AH, UK. Tel: #44-20-7601 5440 Fax: #44-20-7601 5953 E-mail: nikolaos.panigirtzoglou@bankofengland.co.uk AEA-JEL Classification: B22, E41, E31, E32, E51, E52, E58, N12, N13, N14.

[1]  Shu Wu,et al.  Estimating Monetary Policy Effects When Interest Rates are Bounded at Zero , 2001 .

[2]  B. Mccallum,et al.  Inflation Targeting and the Liquidity Trap , 2001 .

[3]  David H. Small,et al.  Monetary Policy When the Nominal Short-Term Interest Rate is Zero , 2000 .

[4]  Lars E. O. Svensson,et al.  The Zero Bound in an Open Economy: A Foolproof Way of Escaping from a Liquidity Trap , 2000 .

[5]  Stephanie Schmitt-Grohé,et al.  Avoiding Liquidity Traps , 1999, Journal of Political Economy.

[6]  G. Taylor.  The Political Economy of Social Credit and Guild Socialism , 1999 .

[7]  David H. Small,et al.  Monetary Policy and Price Stability , 1999 .

[8]  Stephanie Schmitt-Grohé,et al.  The Perils of Taylor Rules , 1999, J. Econ. Theory.

[9]  Alexander L. Wolman.  Staggered Price Setting and the Zero Bound on Nominal Interest Rates , 1998 .

[10]  A. Haldane,et al.  Shoe-Leather Costs Reconsidered , 1998 .

[11]  Jeffrey C. Fuhrer,et al.  Monetary Policy when Interest Rates Are Bounded at Zero , 1997, Review of Economics and Statistics.

[12]  G. Ziebarth,et al.  Price Stability vs. Low Inflation in Germany: An Analysis of Costs and Benefits , 1997 .

[13]  David Laidler,et al.  The Demand for Money: Theories, Evidence, and Problems , 1997 .

[14]  M. Feldstein,et al.  The Costs and Benefits of Going from Low Inflation to Price Stability , 1996 .

[15]  Campbell R. Harvey,et al.  An Empirical Comparison of Alternative Models of the Short-Term Interest Rate , 1992 .

[16]  J. Perl.  The Law of the Excluded Middle , 1988 .

[17]  W. Buiter.  ‘Crowding out’ and the effectiveness of fiscal policy , 1977 .

[18]  J. Mallory,et al.  Social Credit and the Federal Power in Canada , 1955 .

[19]  J. Hicks.  Mr. Keynes and the "Classics"; A Suggested Interpretation , 1937 .

[20]  A. Meltzer.  The Role of Monetary Policy under Low Inflation , 2000 .

[21]  G. Hondroyiannis,et al.  Is the Japanese economy in a liquidity trap , 2000 .

[22]  Paul Krugman,et al.  It's Baaack: Japan's Slump and the Return of the Liquidity Trap , 1998 .

[23]  George L. Perry,et al.  The Macroeconomics of Low Inflation , 1996 .

[24]  S. Fischer.  The Costs and Benefits of Disinflation , 1994 .

[25]  Stephen G. Cecchetti,et al.  Inflation and Uncertainty at Short and Long Horizons , 1990 .

[26]  John B. Taylor.  On the relation between the variability of inflation and the average inflation rate , 1981 .

[27]  A. Okun.  Inflation: Its Mechanics and Welfare Costs , 1975 .

[28]  A. Okun.  The Mirage of Steady Inflation , 1971 .