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Expectations, Stagnation and Fiscal Policy: a Nonlinear Analysis

Author

Listed:
  • George W. Evans

    (University of Oregon)

  • Seppo Honkapohja

    (Aalto University School of Business)

  • Kaushik Mitra

    (University of Birmingham)

Abstract
Stagnation and fiscal policy are examined in a nonlinear stochastic New- Keynesian model with adaptive learning. There are three steady states. The steady state targeted by policy is locally but not globally stable under learning. A severe pessimistic expectations shock can trap the economy in a stagnation regime, underpinned by a low-level steady state, with falling inflation and output. A large fiscal stimulus may be needed to avoid or emerge from stagnation, and the impacts of forward guidance, credit frictions, central bank credibility and policy delay are studied. Our model encompasses a wide range of outcomes arising from pessimistic expectations shocks.

Suggested Citation

  • George W. Evans & Seppo Honkapohja & Kaushik Mitra, 2022. "Expectations, Stagnation and Fiscal Policy: a Nonlinear Analysis," Discussion Papers 22-01, Department of Economics, University of Birmingham.
    • Handle: RePEc:bir:birmec:22-01
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    More about this item

    Keywords

    Stagnation Trap; Expectations; Fiscal Policy; Adaptive Learning; New-Keynesian Model;
    All these keywords.

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
    • E71 - Macroeconomics and Monetary Economics - - Macro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on the Macro Economy

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