On the function of the zero interest rate commitment: Monetary policy rules in the presence of the zero lower bound on interest rates

Abstract

We analyze the monetary policy rules which could be implemented in practice under the zero interest rate constraint. Based on the estimated small structural model for Japanese economy, we investigate which policy rule is superior using stochastic simulations. We modify the estimated Taylor-type rule variously by adding a commitment whereby the zero rate policy will be maintained until the inflation rate rises beyond a specific level. We find that such policy rules can be effective if the commitment is set appropriately. We also find that a nonlinear policy rule incorporating preemptive easing can perform well, mostly without any explicit commitment. J. Japanese Int. Economies 22 (1) (2008) 34–67.