Monetary policy rules and the effective lower bound in the Euro area

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Title: Monetary policy rules and the effective lower bound in the Euro area
Author: Haavio, Markus ; Laine, Olli-Matti
Organization: Bank of Finland
Series: Bank of Finland Research Discussion Papers
Series number: 5/2021
Year of publication: 2021
Publication date: 8.4.2021
Pages: 33
Subject (yso): rahapolitiikka; strategia; säännöt; euroalue; korko
JEL: E31; E32; E52; E58
Other keywords: monetary policy rules; effective lower bound; euro area
Abstract: We analyze the economic performance of different monetary policy strategies, or rules, in a low interest rate environment, using simulations with a DSGE model which has been estimated for the euro area. We study how often the effective lower bound of interest rates (ELB) is likely to bind, and how much forgone monetary policy accommodation this entails. Macroeconomic outcomes are measured by the mean levels and the volatility of output (gaps), unemployment and inflation. We present three sets of results. First, the macroeconomic costs of the ELB are likely to grow in a non-linear manner if the monetary policy space (the difference between the normal, or average, level of nominal interest rates and the ELB) shrinks. Second, a point inflation target appears to outperform a target range. Third, the (relative) performance of low-for-long (L4L) monetary policy rules depends on the size of the monetary policy space. The L4L rules tend to perform well, if the monetary space is small, but if the space is larger these rules, while stabilizing inflation, may lead to more volatility in the real economy than flexible inflation targeting.
Rights: https://helda.helsinki.fi/bof/copyright


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