NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH
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Global Imbalances and Currency Wars at the ZLB.

Ricardo J. Caballero, Emmanuel Farhi, Pierre-Olivier Gourinchas

NBER Working Paper No. 21670
Issued in October 2015, Revised in March 2016
NBER Program(s):Asset Pricing, Economic Fluctuations and Growth, International Finance and Macroeconomics, Monetary Economics

This paper explores the consequences of extremely low equilibrium real interest rates in a world with integrated but heterogenous capital markets and nominal rigidities. In this context, we establish five main results: (i) Economies experiencing liquidity traps pull others into a similar situation by running current account surpluses; (ii) Reserve currencies have a tendency to bear a disproportionate share of the global liquidity trap|a phenomenon we dub the “reserve currency paradox”; (iii) While more price and wage flexibility exacerbates the risk of a deflationary global liquidity trap, it is the more rigid economies that bear the brunt of the recession; (iv) Beggar-thy-neighbor exchange rate devaluations provide stimulus to the undertaking country at the expense of other countries (zero-sum); and (v) Safe public debt issuances, helicopter drops of money, and increases in government spending in any country are expansionary for all countries (positive-sum). We use these results to shed light on the evolution of global imbalances, interest rates, and exchange rates since the beginning of the global financial crisis.

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Document Object Identifier (DOI): 10.3386/w21670

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