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Inflation dynamics: the role of public debt and policy regimes

Saroj Bhattarai (), Jae Won Lee () and Woong Yong Park ()

No 124, Globalization Institute Working Papers from Federal Reserve Bank of Dallas

Abstract: We investigate the roles of a time-varying inflation target and monetary and fiscal policy stances on the dynamics of inflation in a DSGE model. Under an active monetary and passive fiscal policy regime, inflation closely follows the path of the inflation target and a stronger reaction of monetary policy to inflation decreases the equilibrium response of inflation to non-policy shocks. In sharp contrast, under an active fiscal and passive monetary policy regime, inflation moves in an opposite direction from the inflation target and a stronger reaction of monetary policy to inflation increases the equilibrium response of inflation to non-policy shocks. Moreover, a weaker response of fiscal policy to debt decreases the response of inflation to non-policy shocks. These results are due to variation in the value of public debt that leads to wealth effects on households. Finally, under a passive monetary and passive fiscal policy regime, both monetary and fiscal policy stances affect inflation dynamics, but because of a role for self-fulfilling beliefs due to equilibrium indeterminacy, theory provides no clear answer on the overall behavior of inflation. We characterize these results analytically in a simple model and numerically in a richer quantitative model.

JEL-codes: E31 E52 E63 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-dge, nep-mac and nep-mon
Date: 2012
Note: Published as: Bhattarai, Saroj, Jae Won Lee and Woong Yong Park (2014), "Inflation Dynamics: The Role of Public Debt and Policy Regimes," Journal of Monetary Economics 67: 93-108.
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Related works:
Journal Article: Inflation dynamics: The role of public debt and policy regimes (2014) Downloads
Working Paper: Inflation Dynamics: The Role of Public Debt and Policy Regimes (2013) Downloads
Working Paper: Inflation Dynamics: The Role of Public Debt and Policy Regimes (2013) Downloads
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