Nominal Debt as a Burden on Monetary Policy

Javier Díaz-Giménez (), Giorgia Giovannetti (), Ramon Marimon and Pedro Teles ()

No ECO2007/53, Economics Working Papers from European University Institute

Abstract: We characterize the optimal sequential choice of monetary policy in economies with either nominal or indexed debt. In a model where nominal debt is the only source of time inconsistency, the Markov-perfect equilibrium policy implies the progressive depletion of the outstanding stock of debt, until the time inconsistency disappears. There is a resulting welfare loss if debt is nominal rather than indexed. We also analyze the case where monetary policy is time inconsistent even when debt is indexed. In this case, with nominal debt, the sequential optimal policy converges to a time-consistent steady state with positive -- or negative -- debt, depending on the value of the intertemporal elasticity of substitution. Welfare can be higher if debt is nominal rather than indexed and the level of debt is not too high.

Keywords: nominal debt; indexed debt; optimal monetary policy; time consistency; Markov-perfect equilibrium (search for similar items in EconPapers)
JEL-codes: E40 E50 E58 E60 (search for similar items in EconPapers)
Date: 2007
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Related works:
Working Paper: Nominal Debt as a Burden on Monetary Policy (2007)
Working Paper: Nominal Debt as a Burden to Monetary Policy (2000)
Working Paper: Nominal Debt as a Burden on Monetary Policy (2006)
Working Paper: Nominal Debt as a Burden on Monetary Policy (2007)
Working Paper: Nominal debt as a burden on monetary policy (2004)
Journal Article: Nominal Debt as a Burden on Monetary Policy (2008)
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