The standard financial accelerator works through the balance sheets of firms. If a firm’s balance sheet is in good shape, it can more easily invest in equipment, structures and research and development. Given that balance sheets tend to improve in expansions due to increased profits, this gives rise to a clear positive feedback mechanism (see the Appendix).
It follows that a reduction in interest rates in such an environment—even if it is temporary—can be amplified and propagated over time and lead to long-lived effects on the economy. In particular, the feedback on firms’ net worth from an economic expansion can cause a small positive shock to the economy to evolve into a prolonged boom as firms’ higher net worth increases investment.