Five-Equation Macroeconomics: A Simple View of the Interactions Between Fiscal Policy and Monetary Policy

Tatiana Kirsanova, Sven Jari Stehn () and David Vines

No 5464, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: This paper studies the interactions of fiscal and monetary policy when they stabilise a single economy against shocks in a dynamic setting. We assume that fiscal and monetary policies both stabilise the economy only by causing changes to aggregate demand. Our findings are as follows. If the both policymakers are benevolent, then the best outcome is achieved when the fiscal authority allows monetary policy to perform nearly all of the burden of stabilising the economy. If the monetary authorities are benevolent, but the fiscal authorities have distorted objectives, then a Nash equilibrium will result in large welfare losses: unilateral efforts by each authority to stabilise the economy will result in a rapid accumulation of public debt. However, if the monetary authorities are benevolent and the fiscal authorities have distorted objectives, but there is a regime of fiscal leadership, then the outcome will be very nearly as good as it is in the regime in which both policymakers are benevolent.

Keywords: fiscal policy; macroeconomic stabilisation; monetary policy (search for similar items in EconPapers)
JEL-codes: E52 E61 E63 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
Date: 2006-01
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