Department of Economics

University of Delaware

Working Paper #2006-14

Overcoming the Zero Interest-Rate Bound: A Quantitative Prescription

Kenneth A. Lewis and Laurence S. Seidman

ABSTRACT

Two recent empirical studies of the 2001 recession published in the American Economic Review imply that an old-fashioned Keynesian fiscal stimulus—a cash transfer (“tax rebate”) or tax cut to households-- can overcome the zero interest-rate bound problem.  We provide a quantitative estimate of the cash transfer that would achieve recovery from a severe recession when confronted with the zero bound.  We obtain our result by adapting and simulating a macro-econometric model that has been recently econometrically estimated.  With the interest rate near zero, a cash transfer equal to 3% of quarterly GDP repeated four times (quarterly) would reduce the unemployment rate nearly a full percentage point.