Endogenous Volatility at the Zero Lower Bound: Implications for Stabilization Policy

By Brent Bundick, Economist and Susanto Basu


  Download paper, RWP 15-01, January 2015

At the zero lower bound, the central bank's inability to offset shocks endogenously generates volatility. In this setting, an increase in uncertainty about future shocks causes significant contractions in the economy and may lead to non-existence of an equilibrium. The form of the monetary policy rule is crucial for avoiding catastrophic outcomes. State-contingent optimal monetary and fiscal policies can attenuate this endogenous volatility by stabilizing the distribution of future outcomes. Fluctuations in uncertainty and the zero lower bound help our model match the unconditional and stochastic volatility in the recent macroeconomic data.

JEL Classification: E32, E52   

Article Citation

  • Basu, Susanto, and Brent Bundick. 2015. “Endogenous Volatility at the Zero Lower Bound: Implications for Stabilization Policy,” Federal Reserve Bank of Kansas City, working paper no. 15-1, January. Available at https://doi.org/10.18651/RWP2015-01

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About the Author

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Brent Bundick's research interests include macroeconomics, monetary policy, and computational economics. Read his bio.