Fiscal and Monetary Policy in a Monetary Union: Credible Inflation Targets or Monetised Debt?

Thomas Krichel (), Paul Levine () and Joseph Pearlman

School of Economics Discussion Papers from School of Economics, University of Surrey

Abstract: The paper examines the interrelationship between fiscal and monetary policy in a two-country monetary union. The worst scenario occurs when an independent central bank (CB sets the nominal interest rate and responds to rising government debt/GDP ratios by monetisation. The result is high inflation, high debt/GDP ratios and a large public sector. Government debt and inflation are contained if the governments bear sole responsibility for solvency, but the public sector remains excessively large. The best scenario occurs if the CB removes the incentive for the governments to engineer surprise inflation by credible inflation targeting.

Keywords: monetary union; fiscal policy coordination; monetary and fiscal policy interdependence; reputation. (search for similar items in EconPapers)
JEL-codes: E52 E62 F15 F33 (search for similar items in EconPapers)
Date: 1994-03
Note: The paper was produced as part of a research programme on Economic and Monetary Union financed by the Leverhulme Trust. The authors acknowledge comments on earlier drafts of the paper made by participants at seminars or sessions given at Florida University, the RES Annual Conference 1992, the Money, Macroeconomics and Finance Study Group Annual Conference 1992 and Gdansk University. The usual disclaimer applies.
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Citations: View citations in EconPapers (16)

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Journal Article: Fiscal and monetary policy in a monetary union: Credible inflation targets or monetized debt? (1996)
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