Working Paper: CEPR ID: DP9989
Authors: Isabel Correia; Fiorella De Fiore; Pedro Teles; Oreste Tristani
Abstract: How should monetary and fiscal policy react to adverse financial shocks? If monetary policy is constrained by the zero lower bound on the nominal interest rate, subsidising the interest rate on loans is the optimal policy. The subsidies can mimic movements in the interest rate and can therefore overcome the zero bound restriction. Credit subsidies are optimal irrespective of how they are financed. If debt is not state contingent, they result in a permanent increase in the level of public debt and future taxes, and in a permanent reduction in output.
Keywords: banks; credit policies; credit subsidies; monetary policy; zero bound on interest rates
JEL Codes: E31; E40; E44; E52; E58; E62; E63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| credit subsidies (H81) | financing costs (G32) |
| credit subsidies (H81) | economic stability (E63) |
| credit subsidies (H81) | public debt (H63) |
| credit subsidies (H81) | future taxes (H29) |
| credit subsidies (H81) | output (C67) |
| credit subsidies + interest rate policy (E43) | first-best allocations (D61) |
| monetary policy constraints (E52) | credit market dynamics (E44) |