Question

What major theoretical issues in monetary macroeconomics emerged into public debate in connection with the 2007-8 financial crisis and the efforts of central banks to mitigate its effects?

Answer 1

There were many issues in macro monetary policy that were brought out in public discourse due to the financial crisis. One of the most important was the inefficiency of the monetary policy when the nominal interest rates fall to the 0 level. Now, in theory, if the nominal interest rates can not be cut further below 0, monetary policy becomes ineffective (known as the zero lower bound) and can not be utilized during economic downturns.

The central banks, over the years, have tried to mitigate this by adopting new approaches like the unconventional monetary policy such as the Quantitative Easing programmes by the Fed US and the ECB in Eurozone. This involves purchasing long term government securities by the central bank which creates a wealth effect and provides liquidity. Many central banks in Europe have even experimented with negative interest rates. Some deposit rates are set to a small negative value and the the discussion on its usefulness is still ongoing. Banks are also considering rasing the inflation targets such that the natural rates of interest risesa nd nominal interest rates will not be hitting the zero level.