Is the Risk of the Lower Bound Reducing Inflation?

Amano, Robert; Carter, Thomas; Leduc, Sylvain

Journal Article

Is the Risk of the Lower Bound Reducing Inflation?

Abstract: U.S. inflation has remained below the Fed’s 2% goal for over 10 years, averaging about 1.5%. One contributing factor may be the impact from a higher probability of future monetary policy being constrained by the effective lower bound on interest rates. Model simulations suggest that this higher risk of hitting the lower bound may lead to lower expectations for future inflation, which in turn reduces inflation compensation for investors. The higher risk may also change household and business spending and pricing behavior. Taken together, these effects contribute to weaker inflation.

Keywords: central banking; inflation; effective lower bound; interest rates;