Zero Interest Rate Floor

Essay text:

slow to supply resources to clean up banks o Financial crisis contributed to deflationary pressure in economy • 50% appreciation of yen from 1992-95 reduced competitiveness and hindered an export led recovery • Premature fiscal tightening and asian financial crisis stopped recovery that started in 1996. o Asian countries demand for Japanese exports fell by more than a quarter during 1998 o Next recovery began in 2000 but was cut short by bursting IT bubble and US recession Macroeconomic Imbalances • Shock of collapse made expectations in Japan more pessimistic, leading to imbalance between savings and investments demand • Historically, Japanese have been saving more 30% of GDP which has gone to investment o When domestic investment demand declined 2 options for private savings ? Place abroad and run an current account surplus ? Used to finance a domestic fiscal debt ? End of 90s facing 2 and 9% respectively, while savings rate was still 30% o Country already has large debt, making hard for government to continue with large deficits ? Reduced taxes have not increased private demand ? People have chosen to save the bulk of their increased disposable incomes ? Extra government expenditure used for unproductive rural infrastructure, not really increasing output o Solution of investing abroad would require a depreciating exchange rate to generate a sufficiently large trade surplus Liquidity Trap