Monetary conservatism and fiscal policy

Klaus Adam () and Roberto M. Billi ()

Journal of Monetary Economics, 2008, vol. 55, issue 8, pages 1376-1388

Abstract: Does an inflation conservative central bank à la Rogoff (1985) remain desirable in a setting with endogenous fiscal policy? To provide an answer we study monetary and fiscal policy games without commitment in a dynamic, stochastic sticky-price economy with monopolistic distortions. Monetary policy determines nominal interest rates and fiscal policy provides public goods generating private utility. We find that lack of fiscal commitment gives rise to excessive public spending. The optimal inflation rate internalizing this distortion is positive, but lack of monetary commitment generates too much inflation. A conservative monetary authority thus remains desirable. When fiscal policy is determined before monetary policy each period, the monetary authority should focus exclusively on stabilizing inflation. Monetary conservatism then eliminates the steady state biases associated with lack of monetary and fiscal commitment and leads to stabilization policy that is close to optimal.

Keywords: Sequential; non-cooperative; policy; games; Discretionary; policy; Time; consistent; policy; Conservative; monetary; policy (search for similar items in EconPapers)
Date: 2008
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Related works:
Working Paper: Monetary conservatism and fiscal policy (2007)
Working Paper: Monetary Conservatism and Fiscal Policy (2006)
Working Paper: Monetary conservatism and fiscal policy (2006)
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Persistent link: http://EconPapers.repec.org/RePEc:eee:moneco:v:55:y:2008:i:8:p:1376-1388

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