Question

What are the policy options available to the central bank in the presence of zero lower bound? Has the Fed adopted these policies in the current economic crisis?

Answer 1

Ans. Zero lower bound means when the interest rate is zero. This makes the conventional monetary policy ineffective. So, the alternative policy used by the central bank inthis scenario is quantitaive easing. It is a large scale asset buying by the central bank of treasury and other government securities. This keeps short term interest rates low and also decreases long term borrowing rates which incentivise borrowing and thus, investment. FED used this policy at the time of Great recession of 2008 to revive the economy as conventional monetary policy was not working due to zero lower bound. FED also used this policy to support financial market by buying large number of government and other securities in this time of COVID crisis.

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