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The macroeconomics of government finance

In: Handbook of Monetary Economics


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  • Haliassos, Michael
  • Tobin, James


This chapter is a critical survey of literature on the implications of government financial policy for economic activity. The central question is whether the mode of financing of a given path of real government purchases -- by taxes, non-monetary debt issue, or money creation -- has real effects, in particular real effects of macroeconomic consequence.In Section 1, the Introduction, we define the issues with greater detail and precision. We briefly review economists' views, over the past fifty years, of the burden of public debt and the neutrality of money. Section 2 is a review of the 1960s vintage mainstream macroeconomics of fiscal and monetary policies, often called the "neoclassical synthesis". We review its implications for both short-run fluctuations and long-run trends. We include this review because the earlier tradition covers some problems and issues now neglected, because its analyses and results may still have some validity, and because they did set the stage for -- one might say they provoked or inspired -- the recent literature surveyed in Sections 4-6. The earlier tradition and the recent literature differ in methodology, and in Section 3 we discuss the "microfoundations" methodology that dominates contemporary macroeconomics.Sections 4-6 are a selective critical survey of recent contributions, theoretical and empirical, designed to summarize the current state of play on the central issues: Section 4, the debt neutrality hypothesis of Robert Barro; Section 5, the effects of financing government expenditures by printing money rather than taxing, monetary superneutrality, and the "Fisher effect" of inflation on interest rates; Section 6, open market operations, and shifts between bond- and money-financing of government expenditures induced by the adoption of financial policies which are unsustainable over the longer run. In each section we first set forth the neutrality theorems purporting to show the irrelevance of the financing choice. Then we discuss articles elaborating or criticizing the theorems. In each case we conclude with a review and evaluation of some empirical tests. We conclude in Section 7 with short summary remarks.

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This chapter was published in:

  • B. M. Friedman & F. H. Hahn (ed.), 1990. "Handbook of Monetary Economics," Handbook of Monetary Economics, Elsevier, edition 1, volume 2, number 2, January.
    This item is provided by Elsevier in its series Handbook of Monetary Economics with number 2-17.

    Handle: RePEc:eee:monchp:2-17

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    Cited by:
    1. Gabor Oblath & Akos Valentinyi, 1993. "Macroeconomic Policy, Liberalization and Transition: Hungary's Case," CASE Network Studies and Analyses 0008, CASE-Center for Social and Economic Research.
    2. Azizi, Karim & Canry, Nicolas & Chatelain, Jean-Bernard & Tinel, Bruno, 2013. "Government Solvency, Austerity and Fiscal Consolidation in the OECD: A Keynesian Appraisal of Transversality and No Ponzi Game Conditions," EconStor Preprints 72550, ZBW - German National Library of Economics.
    3. D'Ecclesia, Rita L. & Zenios, Stavros A., 2005. "Estimation of asset demands by heterogeneous agents," European Journal of Operational Research, Elsevier, vol. 161(2), pages 386-398, March.
    4. Jamee K. Moudud & Ajit Zacharias, 1999. "The Social Wage, Welfare Policy, and the Phases of Capital Accumulation," Economics Working Paper Archive wp_291, Levy Economics Institute.
    5. Thorbecke, Willem, 2002. "Budget deficits, inflation risk, and asset prices," Journal of International Money and Finance, Elsevier, vol. 21(4), pages 539-553, August.
    6. Alberto Bagnai, 2004. "Keynesian and neoclassical fiscal susteinability indicators, with applications to EMU member countries," Working Papers 75, University of Rome La Sapienza, Department of Public Economics.
    7. Zeinab Partow, . "Una revisión de la Literatura sobre los Costos de la Inflación," Borradores de Economia 032, Banco de la Republica de Colombia.
    8. Koustas, Zisimos & Serletis, Apostolos, 1999. "On the Fisher effect," Journal of Monetary Economics, Elsevier, vol. 44(1), pages 105-130, August.
    9. Rudi Dornbusch, 1996. "Debt and Monetary Policy: The Policy Issues," NBER Working Papers 5573, National Bureau of Economic Research, Inc.
    10. Jamee K. Moudud & Ajit Zacharias, 2000. "Finance in a Classical and Harrodian Cyclical Growth Model," Macroeconomics 0004037, EconWPA.


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