Fiscal stabilization with partial exchange rate pass-through

Erasmus Kersting ()

No 31, Globalization Institute Working Papers from Federal Reserve Bank of Dallas

Abstract: This paper examines the role of fiscal stabilization policy in a two-country framework that allows for a general degree of exchange rate pass-through. I derive analytical solutions for optimal monetary and fiscal policy which are shown to depend on the degree of pass-through. In the case of partial pass-through, an optimizing policy maker uses countercyclical fiscal stabilization in addition to monetary stabilization. However, in the extreme cases of complete or zero pass-through, the fiscal stabilization instrument is not employed. There is also no additional gain from the fiscal instrument in the case of coordination between the two countries. These results are due to the specific way the optimal fiscal policy rule affects marginal costs: Rather than being a substitute for monetary policy, fiscal policy complements it by increasing the correlation of the marginal cost terms within and across countries. This in turn makes monetary policy more effective at stabilizing them.

JEL-codes: E52 E63 F41 F42 (search for similar items in EconPapers)
Pages: 34 pages
Date: 2009
New Economics Papers: this item is included in nep-cba, nep-ifn, nep-mac and nep-opm
Note: Published as: Kersting, Erasmus K. (2013), "Fiscal Stabilization with Partial Exchange Rate Pass-Through," Economic Inquiry 51 (1): 348-367.
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Related works:
Journal Article: FISCAL STABILIZATION WITH PARTIAL EXCHANGE RATE PASS-THROUGH (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:fip:feddgw:31

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