Central Bank of Chile
Institutional Affiliation: Central Bank of Chile
NBER Working Papers and Publications
|October 2015||Are Low Interest Rates Deflationary? A Paradox of Perfect-Foresight Analysis|
with : w21614
We illustrate a pitfall that can result from the common practice of assessing alternative monetary policies purely by considering the perfect foresight equilibria (PFE) consistent with the proposed rule. In a standard New Keynesian model, such analysis may seem to support the “Neo-Fisherian” proposition according to which low nominal interest rates can cause inflation to be lower. We propose instead an explicit cognitive process by which agents may form their expectations of future endogenous variables. Under some circumstances, a PFE can arise as a limiting case of our more general concept of reflective equilibrium, when the process of reflection is pursued sufficiently far. But we show that an announced intention to fix the nominal interest rate for a long enough period of time creates a...
Published: Mariana García-Schmidt & Michael Woodford, 2019. "Are Low Interest Rates Deflationary? A Paradox of Perfect-Foresight Analysis," American Economic Review, vol 109(1), pages 86-120. citation courtesy of