The Effect of Fiscal Policy on the Short-run Relation between Nominal Interest Rates and Inflation

Victor A Canto, Jerry Nickelsburg and Paul Rizos

Economic Inquiry, 1987, vol. 25, issue 1, 27-42

Abstract: This paper presents a simple empirical model of the relation between the inflation rate and the nominal interest rate. The authors show that previous results found in the literature may be attributed to specification error and that there are natural explanations for the observed signs of previous Fisher equation estimates. Fiscal policy shocks may generate short-run negative correlations between changes in inflation and changes in the nominal interest rates. These results illustrate the difficulty in discussing the relation between inflation and nominal interest rates without conditioning the analysis with specific assumptions on the course of the economy. Copyright 1987 by Oxford University Press.

Date: 1987
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