Monetary and Economic Studies Vol.26 / December 2008

Helicopter Drops and Japan's Liquidity Trap

Laurence Ball

This paper examines the effects of a money-financed fiscal expansion-a helicopter drop-when an economy is in a liquidity trap. It uses a textbook-style model calibrated to fit Japan's economic slump and deflation as of 2003. According to the results, money-financed transfers totaling 9.4 percent of GDP end the output slump and guide the economy to a steady state with 2 percent inflation. By raising output and inflation, the policy also reduces the ratio of government debt to GDP. The policy's long-run effects are the same as those of a bond-financed fiscal expansion, but money finance prevents a short-run rise in debt.

Keywords: Helicopter drop; Liquidity trap; Deflation

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.

Copyright © 2008 Bank of Japan All Rights Reserved.

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