Recent research has found that the dynamics of the New Keynesian model are very different when the nominal interest rate is zero. Improvements in technology shocks and reductions in the labor tax rate lower economic activity and the size of the government purchase multiplier can be as large as four. We consider the empirical relevance of these dynamics using Japanese data. Japan is interesting because it experienced a protracted period of zero nominal interest rates. A prototypical New Keynesian model calibrated to Japan and solved using nonlinear methods exhibits orthodox dynamics with a government purchase multiplier that is less than one.
Keywords: Government purchases; zero nominal interest rates; monetary policy
Views expressed in the paper are those of the authors and do not necessarily reflect those of the Bank of Japan or Institute for Monetary and Economic Studies.