Economics Monetary Policy Questions
The zero lower bound refers to the lowest possible level that a central bank can set its nominal interest rate. When the nominal interest rate reaches zero, it becomes difficult for the central bank to further stimulate the economy through conventional monetary policy tools. At this point, the central bank is said to have reached the zero lower bound. This limitation arises because individuals and businesses may prefer to hold cash rather than pay interest on deposits, making it ineffective for the central bank to lower interest rates further. As a result, alternative unconventional monetary policy measures, such as quantitative easing or forward guidance, may be employed to stimulate economic activity when the zero lower bound is reached.