Working Paper

Quantitative Easing and the “New Normal” in Monetary Policy

Abstract: Interest rates may remain low and fall to their effective lower bound (ELB) often. As a result, quantitative easing (QE), in which central banks expand their balance sheet to lower long-term interest rates, may complement policy approaches focused on adjustments in short-term interest rates. Simulation results using a large-scale model (FRB/US) suggest that QE does not improve economic performance if the steady-state interest rate is high, confirming that such policies were not advantageous from 1960 to 2007. However, QE can offset a significant portion of the adverse effects of the ELB when the equilibrium real interest rate is low. These improvements in economic performance exceed those associated with moderate increases in the inflation target. Active QE is primarily required when nominal interest rates are near the ELB, pointing to benefits within the model from QE as a secondary tool while relying on short-term interest rates as the primary tool.

Keywords: Interest rates; Macroeconomic models; Monetary policy;

JEL Classification: E52; E47; E37;

https://doi.org/10.17016/FEDS.2018.004

Bibliographic Information

Provider: Board of Governors of the Federal Reserve System (U.S.)

Part of Series: Finance and Economics Discussion Series

Publication Date: 2018-01-17

Number: 2018-004

Pages: 38 pages