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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. Thomas J. Sargent & Neil Wallace, 1981. "Some unpleasant monetarist arithmetic," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall.
  2. Greenwood, J. & Smith, B.D., 1995. "Financial Markets in Development, and the Development of Financial Markets," RCER Working Papers 406, University of Rochester - Center for Economic Research (RCER).
  3. Schreft, Stacey L. & Smith, Bruce D., 2000. "The evolution of cash transactions: Some implications for monetary policy," Journal of Monetary Economics, Elsevier, vol. 46(1), pages 97-120, August.
  4. 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.
  5. Smith, Bruce D, 1991. "Interest on Reserves and Sunspot Equilibria: Friedman's Proposal Reconsidered," Review of Economic Studies, Wiley Blackwell, vol. 58(1), pages 93-105, January.
  6. Smith, Bruce D, 1994. "Efficiency and Determinacy of Equilibrium under Inflation Targeting," Economic Theory, Springer, vol. 4(3), pages 327-44.
  7. 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.
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Citations

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Cited by:
  1. Rangan Gupta, 2005. "Costly State Monitoring and Reserve Requirements," Annals of Economics and Finance, Society for AEF, vol. 6(2), pages 263-288, November.
  2. Gaetano Antinolfi & Todd Keister, 2003. "Discount Window Policy, Banking Crises, and Indeterminacy of Equilibrium," Working Papers 0305, Centro de Investigacion Economica, ITAM.
  3. Machicado, Carlos Gustavo, 2008. "Liquidity shocks and the dollarization of a banking system," Journal of Macroeconomics, Elsevier, vol. 30(1), pages 369-381, March.
  4. Joydeep Bhattacharya & Joseph H. Haslag & Antoine Martin, 2005. "Heterogeneity, Redistribution, And The Friedman Rule," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 46(2), pages 437-454, 05.
  5. 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.
  6. 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.
  7. Joseph Haslag & Chao Gu, 2012. "Unconventional Optimal Repurchase Agreements," 2012 Meeting Papers 431, Society for Economic Dynamics.
  8. repec:cuf:journl:y:2013:v:14:i:3:paal is not listed on IDEAS
  9. Joseph H. Haslag & Antoine Martin, 2007. "Optimality of the Friedman Rule in an Overlapping Generations Model with Spatial Separation," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(7), pages 1741-1758, October.
  10. Stacey Schreft & Bruce Smith, 2008. "The social value of risk-free government debt," Annals of Finance, Springer, vol. 4(2), pages 131-155, March.
  11. 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.
  12. Chao Gu & Joseph Haslag, 2011. "Endogenous Credit Cycles," Working Papers 1114, Department of Economics, University of Missouri.
  13. 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.

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