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Optimal Simple Rules for Fiscal Policy in a Monetary Union

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Author Info
Lukas Vogel
Werner Roeger
Bernhard Herz

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Abstract

The paper discusses the stabilizing potential of fiscal policy in a dynamic general-equilibrium model of monetary union. We consider a small open economy inside the currency area. We analyze the demand and supply effects of direct taxation, indirect taxation and government spending and derive optimal simple rules for fiscal stabilization of a technology shock. Fiscal policy achieves substantial macroeconomic stabilization. Simple public-expenditure rules show the highest degree of both output and inflation stabilization. The implementation lag substantially weakens output stabilization, but hardly affects the stabilization of prices. Out-put-oriented rules imply less instrument inertia than inflation-dominated rules. The implemen-tation lag leads to higher coefficients for inflation relative to output in the optimal rule. Com-pared to the single-instrument approach the simultaneous optimization of two instrument rules implies only little additional stabilization gains.

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File URL: http://www.bgpe.de/texte/DP/021_vogel_roeger_herz.pdf
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Publisher Info
Paper provided by Bavarian Graduate Program in Economics (BGPE) in its series Working Papers with number 021.

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Length: 39 pages
Date of creation: Dec 2006
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Handle: RePEc:bav:wpaper:020_vogel_roeger_herz

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Related research
Keywords: Fiscal policy; monetary union; simple policy rules;

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Find related papers by JEL classification:
E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation
E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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