Date of Award

6-2015

Document Type

Open Access

Degree Name

Bachelor of Arts

Department

Economics

First Advisor

Eshragh Motahar

Language

English

Keywords

monetary, policy, debt, unconventional, federal

Abstract

After the Financial Crisis of 2007 to 2008, the Federal Reserve and the federal government used monetary and fiscal policy to buoy the economy out of the recession, but the Fed had to turn to non-standard forms of monetary policy, or unconventional monetary policy. The Federal Reserve used forward guidance, quantitative easing, and the maturity extension program to: lower interest rates, raise inflation expectations, and increase GDP. Six years after the Financial Crisis, the Federal Reserve has begun to taper from unconventional monetary policy. Yet, there has been much debate as to whether unconventional monetary policy is effective or not, and whether the Federal Reserve used these policies for “too” long. This paper argues that debt overhang is preventing unconventional monetary policy from being effective. Debt overhang is a debt burden that is so great that an entity cannot take on additional debt to finance future projects. For instance, when the housing bubble burst, home values dropped below the mortgage value leaving individuals with less equity, even negative equity, contributing to debt overhang. Through regression and graphical analysis, the results indicate that unconventional monetary policy stimulates investment and consumption, while debt overhang has a significant impact on investment and consumption. Therefore, the low interest rate environment that the unconventional monetary policy creates is not stimulating investment and consumption because market participants are trying to save money.

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