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U.S. Exit Strategies and Zero Interest Rates

Nov 2009
Policy Brief
By  Ronald McKinnon

Since the credit crunch and global downturn in 2008, governments everywhere have responded to the shortfall in aggregate demand in a standard textbook Keynesian fashion. To degrees, they have adopted fiscal stimuli: ramping up government expenditures and cutting taxes. Central banks followed the lead of the U.S. Federal Reserve by driving short-term interest rates toward zero; almost exactly zero for overnight interbank rates in the U.S., Japan, and Canada, and generally less than 1 percent in Europe into the fall of 2009.

In a statement on September 23, 2009, the Fed repeated that it would keep its benchmark overnight interest rate at virtually zero for an “extended period.” But are these near-zero interest rates the appropriate policy response?