Too Low for Too Long Could Extended Periods of Ultr a Easy Monetary Policy Have Harmful Effects? Etibar Jafarov and Enrico Minnella WP/23/105 IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. 2023 MAY * The authors would like to thank Mauricio Villafuerte and Gustavo Adler for supporting this research project. We would also like tothank Fumitaka Nakamura, Fuad Hasanov, Samuel Pienknagura, Beniamino Pisicoli, Irene Rizzoli, Tammaro Terracciano, VassiliBazinas, Frank Wu, Gianluigi Ferrucci, Joseff Platzer, Francisco Roch, Purva Khera, and Salih Fendoglu as well as participants atseveral IMF seminars for their valuable comments. Finally, the authors would like Nicolas Landeta and Daria Kolpakova for theirexcellent organizational and research support. All remaining errors are ours.© 2023 International Monetary Fund WP/23/105IMF Working Paper Western Hemisphere Department Too Low for Too Long. Could Extended Periods of Ultra Easy Monetary Policy Have Harmful Effects? Prepared by Etibar Jafarov and Enrico Minnella* Authorized for distribution by Mauricio Villafuerte May 2023 IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. ABSTRACT: Extended periods of ultra-easy monetary policy in advanced economies have rekindled debates about the zombification of weak companies and its impact on resource allocation, economic growth, inflation, and financial stability. Usi ng both firm-level and macroeconomic data, we find that recessions are a critical factor in the rapid increase in the number of zombie firms. Expansionary monetary policy can help reduce zombification when interest rates are at the zero lower bound (ZBL), but a too-accommodative monetary policy for extended periods is associated with a higher probability of zombification. Small and medium enterprises are more likely to become zombie firms. This raises concerns about the sustainability of too-easy monetary policy implementation, especially in countries where growth is lackluster. Our findings imply a tradeoff between conducting a countercyclical monetary policy, which also helps contain the increase i n the number of zombie firms in cyclical downturns, and using an expansionary monetary policy for long periods, which may lead to a combination of low interest rates, low growth, and high financial vulnerability. Suc h a tradeoff is not a concern currently when most countries are tightening their monetary policy stance, but policymakers should be mindful of it during future recessions. JEL Classification Numbers: E52, G4; H81; O42, O47 Keywords: Too Low for Too Long; Zombie Firms; Financial Stability Author’s E-Mail Address: EJafarov@imf.org; enrico.minnella@uniroma2.it WORKING PAPERS Too Low for Too Long Could Extended Periods of Ultra Easy Monetary Policy Have Harmful Effects? Prepared by Etibar Jafarov and Enrico Minnella1 1 “The authors would like to thank Mauricio Villafuerte and Gustavo Adler for supporting this research project. We would also like to thank Fumitaka Nakamura, Fuad Hasanov, Samuel Pienknagura, Beniamino Pisicoli, Irene Rizzoli, Tammaro Terracciano, Vassili Bazinas, Frank Wu, Gianluigi Ferrucci, Joseff Platzer, Francisco Roch, Purva Khera, and Salih Fendoglu as well as participants at several IMF seminars for their valuable comments. Finally, the authors would like Nicolas Landeta and Daria Kolpakova for their excellent organizational and research support. All remaining errors are ours. IMF WORKING PAPERS Too Low for Too Long INTERNATIONAL MONETARY FUND 2 Contents Introduction ......................................................................................................................................................... 3 Empirical Analysis of Zombification ................................................................................................................. 5 Stylized facts .................................................................................................................................................. 5 Monetary Policy and Zombification ................................................................................................................ 9 Micro data ................................................................................................................................................ 9 Macro data ............................................................................................................................................. 11 Monetary Policy: Too Low for Too Long ...............