The golden rule of public finance under active monetary stance: endogenous setting for a developing economy

Serhii Shvets

MPRA Paper from University Library of Munich, Germany

Abstract: The paper aims to verify the introduction of the golden rule of public finance under an active monetary stance for a developing economy using a dynamic stochastic general equilibrium model. Besides the two rigidities, namely the deep habit formation and Calvo-style price stickiness, the model structure incorporates real money holdings and welfare-enhancing government purchases in the utility-generating function and a modified Taylor rule. The simulation results have validated the visible crowding-out of private consumption and investment in the short run and a positive impact of the productive government spending on long-run growth, but with some important caveats. In the case of a developing economy that usually has low efficiency and high returns to public capital, the given factors prove significant in addressing the study issue. The results are robust in terms of the structure of utility-generating function, a relatively high share of liquidity-constrained households, and a degree of price stickiness. Moreover, to offset the debt accumulation as a result of increased public investment financing by persistent output growth, in the long run, the central bank should not only rely on response to the fluctuation of inflation and output but also account for a move of public debt.

Keywords: endogenous growth; golden rule; monetary and fiscal policy; government spending; low-income countries; DSGE modeling (search for similar items in EconPapers)
JEL-codes: E13 E63 H54 O41 (search for similar items in EconPapers)
Date: 2020-06-18
New Economics Papers: this item is included in nep-mac
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Published in Investment Management and Financial Innovations 2.17(2020): pp. 216-230

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