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The Conduct of Monetary Policy with a Shrinking Stock of Government Debt

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  • Schreft, Stacey L
  • Smith, Bruce D

Abstract

This article considers the consequences for a central bank of a declining stock of government debt. The model has a treasury that taxes, spends, and issues debt; a central bank that conducts open market operations in treasury debt; and banks that intermediate private savings. It suggests that a sufficiently small stock of debt can put an economy on the Pareto inferior side of the seigniorage Laffer curve, implying unnecessarily high inflation. If there is also a primary budget deficit, equilibrium might not exist. Discount-window lending is a potentially desirable alternative to open market operations, especially if the loans are not subsidized.

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Bibliographic Info

Article provided by Blackwell Publishing in its journal Journal of Money, Credit and Banking.

Volume (Year): 34 (2002)
Issue (Month): 3 (August)
Pages: 848-82

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Handle: RePEc:mcb:jmoncb:v:34:y:2002:i:3:p:848-82

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Web page: http://www.blackwellpublishing.com/journal.asp?ref=0022-2879

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References

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  1. Leeper, Eric M., 1991. "Equilibria under 'active' and 'passive' monetary and fiscal policies," Journal of Monetary Economics, Elsevier, vol. 27(1), pages 129-147, February.
  2. Thomas J. Sargent & Neil Wallace, 1981. "Some unpleasant monetarist arithmetic," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall.
  3. Greenwood, Jeremy & Smith, Bruce D., 1997. "Financial markets in development, and the development of financial markets," Journal of Economic Dynamics and Control, Elsevier, vol. 21(1), pages 145-181, January.
  4. Smith, B.D., 1988. "Interest On Reserves And Sunspot Equilibria: Friedman'S Proposal Reconsidered," RCER Working Papers 119, University of Rochester - Center for Economic Research (RCER).
  5. Stacey L. Schreft & Bruce D. Smith, 1997. "The evolution of cash transactions: some implications for monetary policy," Financial Services working paper 97-04, Federal Reserve Bank of Cleveland.
  6. Bruce Smith & J. Bhattacharya & Mark Guzman, 1998. "Some Even More Unpleasant Monetarist Arithmetic," Canadian Journal of Economics, Canadian Economics Association, vol. 31(3), pages 596-623, August.
  7. Smith, Bruce D, 1994. "Efficiency and Determinacy of Equilibrium under Inflation Targeting," Economic Theory, Springer, vol. 4(3), pages 327-44.
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Cited by:
  1. Machicado, Carlos Gustavo, 2008. "Liquidity shocks and the dollarization of a banking system," Journal of Macroeconomics, Elsevier, vol. 30(1), pages 369-381, March.
  2. Carlos Gustavo Machicado, 2007. "Growth and Banking Structure in a Partially Dollarized Economy," Development Research Working Paper Series 02/2007, Institute for Advanced Development Studies.
  3. Edda Claus & Mardi Dungey & Renée Fry, 2008. "Monetary Policy in Illiquid Markets: Options for a Small Open Economy," Open Economies Review, Springer, vol. 19(3), pages 305-336, July.
  4. Stacey L. Schreft & Bruce D. Smith, 2003. "The social value of risk-free government debt," Research Working Paper RWP 03-02, Federal Reserve Bank of Kansas City.
  5. Rangan Gupta, 2004. "Costly State Monitoring and Reserve Requirements," Working papers 2004-33, University of Connecticut, Department of Economics, revised Jul 2005.
  6. Chao Gu & Joseph Haslag, 2014. "Unconventional Optimal Open Market Purchases," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 17(3), pages 543-558, July.
  7. Joe Haslag & Antoine Martin, 2003. "Optimality of the Friedman Rule in Overlapping Generations Model with Spatial Separation," Working Papers 0306, Department of Economics, University of Missouri.
  8. Joydeep Bhattacharya & Joseph H. Haslag & Antoine Martin, 2004. "Heterogeneity, redistribution, and the Friedman rule," Research Working Paper RWP 04-01, Federal Reserve Bank of Kansas City.
  9. Joseph H. Haslag & Antoine Martin, 2005. "Optimality of the Friedman rule in an overlapping generations model with spatial separation," Staff Reports 225, Federal Reserve Bank of New York.
  10. Chao Gu & Joseph Haslag, 2011. "Endogenous Credit Cycles," Working Papers 1114, Department of Economics, University of Missouri.
  11. Gaetano Antinolfi & Todd Keister, 2003. "Discount Window Policy, Banking Crises, and Indeterminacy of Equilibrium," Working Papers 0305, Centro de Investigacion Economica, ITAM.
  12. repec:cuf:journl:y:2013:v:14:i:3:paal is not listed on IDEAS
  13. Joseph Haslag & Chao Gu, 2012. "Unconventional Optimal Repurchase Agreements," 2012 Meeting Papers 431, Society for Economic Dynamics.

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