Working Paper: CEPR ID: DP14424
Authors: Emmanuel Farhi; Ricardo Caballero; Pierre-Olivier Gourinchas
Abstract: This paper explores the consequences of extremely low real interest rates in a world with integrated but heterogenous capital markets, nominal rigidities and an effective lower bound (a ZLB for simplicity). We establish four main results: (i) At the ZLB, creditor countries export their recession abroad, which we illustrate with a new Metzler diagram in quantities; (ii) Beggar-thy-neighbor currency and trade warsprovide stimulus to the undertaking country at the expense of other countries; (iii) (Safe) public debt issuances and increases in government spending anywhere are expansionary everywhere; (iv) When there is a scarcity of safe assets, net issuers of safe assets import the recession from abroad.
Keywords: liquidity and safety traps; safe assets; global recession; currency wars; trade wars; current account; capital flows; reserve currency; secular stagnation; public debt; fiscal policy; budget balanced fiscal expansion
JEL Codes: E0; F3; F4; G1
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Creditor countries export their recessions abroad (F65) | Economic downturns in debtor nations (F34) |
| Currency and trade wars serve as a beggar-thy-neighbor strategy (F19) | Economic health of affected nations (F69) |
| Safe public debt issuance and increases in government spending (H63) | Positive spillover effects across borders (F69) |
| Net issuers of safe assets import recessions from abroad (F65) | Economic conditions in one country (F69) |