On the Liquidity Trap in the Interval (2001,2006) with Zero Interest Rate

Abstract

During 2001 through 2006, the Bank of Japan (BOJ) adopted "quantitative monetary easing". Although zero interest rates seem to cause the "liquidity trap" in (2001,2006), the growth rate of GDP can be seen to increase gradually. We shall show empirical studies such that there is a transmission path where the increased "Reserve at the BOJ" makes the money turned to the stock market, and hence GDP is increased out of the "liquidity trap". The principal line of attack is to decompose money into precautionary money demand and transaction one. Assuming that precautionary money demand is a function of GDP and fluctuations due to business cycle, we can obtain a new estimation result of precautionary money demand. Defining "adjusted money=m2cd-precautionary demand", we can show a transmission path such that "Reserve at the BOJ" → adjusted money → stock prices → GDP. Six variables of (adjusted money, stock, exchange rate, interest rate, price, GDP) are combined in a macro money system.

Estimation of Precautionary Demand in USA

“…[Remark-1] In the analysis of Japan's economy [2] , a business cycle (corresponding to u(t) in USA) was quarterly given by BOJ's TANKAN, and so we had to use quarterly GDP instead of monthly indpro. We assumed in [2] that money prec is a linear function of GDP and business cycle by setting c 1 > 0 and c 2 ≡ 1 and does not contain reserves in it (c 4 ≡ 0). Reserves are set in a system as an exogenous variable.…”