Navigating by Falling Stars:Monetary Policy with Fiscally Driven Natural Rates

Rodolfo Campos, Jesus Fernandez-Villaverde, Galo Nuño Barrau and Peter Paz

PIER Working Paper Archive from Penn Institute for Economic Research, Department of Economics, University of Pennsylvania

Abstract: We study a new type of monetary-fiscal interaction in a heterogeneous-agent New Keynesian model with a fiscal block. Due to household heterogeneity, the stock of public debt affects the natural interest rate, forcing the central bank to adapt its monetary policy rule to the fiscal stance to guarantee that inflation remains at its target. There is, however, a minimum level of debt below which the steady-state inflation deviates from its target due to the zero lower bound on nominal rates. We analyze the response to a debt-financed fiscal expansion and quantify the impact of different timings in the adaptation of the monetary policy rule, as well as the performance of alternative monetary policy rules that do not require an assessment of the natural rates. We validate our findings with a series of empirical estimates.

Keywords: HANK models; natural rates; fiscal shocks (search for similar items in EconPapers)
JEL-codes: E32 E58 E63 (search for similar items in EconPapers)
Pages: 49 pages
Date: 2024-08-03
New Economics Papers: this item is included in nep-ban, nep-cba, nep-dge and nep-mon
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Related works:
Working Paper: Navigating by Falling Stars: Monetary Policy with Fiscally Driven Natural Rates (2024)
Working Paper: Navigating by falling stars: monetary policy with fiscally driven natural rates (2024)
Working Paper: Navigating by Falling Stars: Monetary Policy with Fiscally Driven Natural Rates (2024)
Working Paper: Navigating by Falling Stars: Monetary Policy with Fiscally Driven Natural Rates (2024)
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