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Federal Reserve Bank of Dallas
Globalization Institute Working Papers
Optimal monetary and fiscal policy at the zero lower bound in a small open economy
Saroj Bhattarai
Konstantin Egorov
Abstract

We investigate open economy dimensions of optimal monetary and fiscal policy at the zero lower bound (ZLB) in a small open economy model. At positive interest rates, the trade elasticity has negligible effects on optimal policy. In contrast, at the ZLB, the trade elasticity plays a key role in optimal policy prescriptions. The way in which the trade elasticity shapes policy depends on the government's ability to commit. Under discretion, the increase in government spending at the ZLB depends critically on the trade elasticity. Under commitment, the difference between future and current policies, both for domestic inflation and government spending, is smaller when the trade elasticity is higher.


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Saroj Bhattarai & Konstantin Egorov, Optimal monetary and fiscal policy at the zero lower bound in a small open economy, Federal Reserve Bank of Dallas, Globalization Institute Working Papers 260, 01 Jan 2016.
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DOI: 10.24149/gwp260
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