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The Stagnation Regime of the New Keynesian Model and Current US Policy∗ George W. Evans University of Oregon University of St. Andrews October 30, 2010 Abstract In Evans, Guse, and Honkapohja (2008) the intended steady state is locally but not globally stable under adaptive learning, and un- stable deflationary paths can arise after large pessimistic shocks to expectations. In the current paper a modified model is presented that includes a locally stable stagnation regime as a possible outcome aris- ing from large expectation shocks. Policy implications are examined. Sufficiently large temporary increases in government spending can dis- lodge the economy from the stagnation regime and restore the natural stabilizing dynamics. More specific policy proposals are presented and discussed. JEL Classification: E63, E52, E58. Keywords: Stagnation, fiscal and monetary policy, deflation trap 1 Introduction The economic experiences of 2008-10 have highlighted the issue of appropri- ate macroeconomic policy in deep recessions. A particular concern is what ∗I am indebted to the University of Oregon Macro workshop for comments on the first draft of this paper, and to Mark Thoma for several further discussions. Financial support from National Science Foundation Grant no. SES-1025011 is gratefully acknowledged. 1 macroeconomic policies should be used when slow growth and high unem- ployment persist even after the monetary policy interest rate instrument has been at or close to the zero net interest rate lower bound for a sustained period of time. In Evans, Guse, and Honkapohja (2008) and Evan