Pareto Improving Fiscal and Monetary Policies: Samuelson in the New Keynesian Model

Mark Aguiar, Manuel Amador and Cristina Arellano

No 646, Staff Report from Federal Reserve Bank of Minneapolis

Abstract: This paper explores the positive and normative consequences of government bond issuances in a New Keynesian model with heterogeneous agents, focusing on how the stock of government bonds affects the cross-sectional allocation of resources in the spirit of Samuelson (1958). We characterize the Pareto optimal levels of government bonds and the associated monetary policy adjustments that should accompany Pareto-improving bond issuances. The paper introduces a simple phase diagram to analyze the global equilibrium dynamics of inflation, interest rates, and labor earnings in response to changes in the stock of government debt. The framework also provides a tractable tool to explore the use of fiscal policy to escape the Effective Lower Bound (ELB) on nominal interest rates and the resolution of the “forward guidance puzzle.” A common theme throughout is that following the monetary policy guidance from the standard Ricardian framework leads to excess fluctuations in income and inflation.

Keywords: Inflation; Ricardian Equivalence; Heterogeneous agents; Government debt (search for similar items in EconPapers)
JEL-codes: E30 E40 E60 (search for similar items in EconPapers)
Date: 2023-06-16
New Economics Papers: this item is included in nep-dge and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Working Paper: Pareto Improving Fiscal and Monetary Policies: Samuelson in the New Keynesian Model (2023)
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Persistent link: https://EconPapers.repec.org/RePEc:fip:fedmsr:96368

DOI: 10.21034/sr.646

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