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The Stabilizing Virtues of Fiscal vs. Monetary Policy on Endogenous Bubble Fluctuations

Thomas Seegmuller () and Lise Clain-Chamosset-Yvrard ()

No 1343, AMSE Working Papers from Aix-Marseille School of Economics, France

Abstract: We explore the existence of endogenous fluctuations with a rational bubble and the stabilizing role of fiscal and monetary policies. Consumers' credit constraints, the role of collateral and a portfolio choice are the key ingredients of our analysis. We consider an overlapping generations model where households realize a portfolio choice between three assets with different returns (capital, money and bonds). Expectation-driven fluctuations and the multiplicity of steady states occur under a positive bubble on bonds, gross substitutability and large input substitution because of credit market imperfections. Focusing on the stabilizing role of policies, we show that a progressive taxation on capital income may rule out expectation-driven fluctuations and the multiplicity of steady states. In contrast, a monetary policy under a Taylor rule has a mitigated stabilizing role, depending on the reactiveness of the policy rule and the concavity of the utility function. When the monetary authority decides instead to fix the nominal interest rate regardless the inflation, decreasing the level of the nominal interest rate can rule out expectation-driven fluctuations, restore the uniqueness of steady states, but can damage the welfare at the steady state.

Keywords: Indeterminacy; Rational bubble; Cash-in-advance constraint; Collateral; Progressive taxation; Monetary policy. (search for similar items in EconPapers)
JEL-codes: D91 E32 E63 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-dge, nep-mon and nep-upt
Date: 2013-08-17, Revised 2013-08-17
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