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Monetary policy and liquid government debt

David Andolfatto () and Fernando Martin ()

Journal of Economic Dynamics and Control, 2018, vol. 89, issue C, 183-199

Abstract: We examine the conduct of monetary policy in a world where the supply of outside money is controlled by the fiscal authority–a scenario increasingly relevant for many developed economies today. Central bank control over the long-run inflation rate depends on whether fiscal policy is Ricardian or Non-Ricardian. The optimal monetary policy follows a generalized Friedman rule that eliminates the liquidity premium on scarce treasury debt. We derive conditions for determinacy under both fiscal regimes and show that they do not necessarily correspond to the Taylor principle. In addition, Non-Ricardian regimes may suffer from multiplicity of steady-states when the government runs persistent deficits.

Keywords: Monetary policy; Inflation; Taylor rule; Determinacy; Ricardian; Liquid bonds (search for similar items in EconPapers)
JEL-codes: E40 E52 E60 E63 (search for similar items in EconPapers)
Date: 2018
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Persistent link: https://EconPapers.repec.org/RePEc:eee:dyncon:v:89:y:2018:i:c:p:183-199

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