March 2022 issue contents
Optimal Credit, Monetary, and Fiscal Policy under Occasional Financial Frictions and the Zero Lower Bound

Shifu Jiang, Hong Kong Monetary Authority

Abstract

I study optimal credit, monetary, and fiscal policy under commitment in a model where financial intermediaries face an occasionally binding financial constraint; the monetary authority faces a zero lower bound; and the fiscal authority faces a budget constraint. Financial and productivity shocks can generate a trade-off between inflation stability and financial stability, which is resolved in favor of the latter. As the ZLB prevents full-scale monetary easing and financial distress disrupts the transmission mechanism, monetary policy should be relatively tight in normal times for precautionary reasons. However, monetary policy should be eased in response to large productivity shocks regardless of the sign. The policy based on optimized simple rules features too-aggressive credit interventions and insufficient monetary easing relative to the Ramsey policy.

JEL Codes: E44, E52, E6, C61.

Full article (PDF, 47 pages)