The Japanese economy at the end of the 1990s and into the 2000s experienced several years of deflation (see Figure 13.19). Again, recall the monetary policy rule used in the chapter: Rt – r̅ = m̅(πt – π̅), where r̅ = 2%, m̅ = 1/2, and π̅ = 2%.
(a) Compute the level of the (nominal) interest rate implied by this policy rule when the inflation rate takes the following values: 1%, 0%, -1%.
(b) Is it possible for the nominal interest rate to be negative? Why or why not?
(c) What does your answer to part (b) mean about monetary policy during a deflation?
(d) If a central bank wants to end the deflation and stimulate the economy, as in the case of Japan in the late 1990s, what can it do?
