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Fiscal policy effectiveness and neutrality results in a non-Ricardian world

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  • Detken, Carsten

Abstract

The paper introduces monetary and fiscal regimes into a Blanchard-Weil overlapping generations model. Contrary to intuition, it is shown that fiscal policy becomes more effective, the less the central bank monetises government debt. Furthermore, there is a degree of debt monetisation at which Ricardian equivalence seems to hold in this 'non-Ricardian' model, as fiscal policy is neutral with respect to agent's net wealth. At the origin of these results are the opposite intergenerational wealth effects of money and debt financing. Since, on average, central bank independence increased through EMU, the analysis suggests that fiscal policy might have become a more powerful instrument for euro-area countries. It is further argued that given the Stability and Growth Pact, governments will find it wise to run budget positions 'close to balance or in surplus' in order to maintain the increased fiscal policy effectiveness. JEL Classification: E63

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Bibliographic Info

Paper provided by European Central Bank in its series Working Paper Series with number 0003.

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Date of creation: May 1999
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Handle: RePEc:ecb:ecbwps:19990003

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Keywords: fiscal policy effectiveness;

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References

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  1. M. Buti & D. Franco & H. Ongena, 1997. "Budgetary Policies during Recessions - Retrospective Application of the "Stability and Growth Pact" to the Post-War Period," European Economy - Economic Papers 121, Directorate General Economic and Monetary Affairs (DG ECFIN), European Commission.
  2. Weil, Philippe, 1991. "Is Money Net Wealth?," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 32(1), pages 37-53, February.
  3. Thomas J. Sargent, 1982. "Beyond demand and supply curves in macroeconomics," Staff Report 77, Federal Reserve Bank of Minneapolis.
  4. Nouriel Roubini & Jeffrey Sachs, 1988. "Political and Economic Determinants of Budget Deficits in the IndustrialDemocracies," NBER Working Papers 2682, National Bureau of Economic Research, Inc.
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  6. Evans, Paul, 1991. "Is Ricardian Equivalence a Good Approximation?," Economic Inquiry, Western Economic Association International, vol. 29(4), pages 626-44, October.
  7. Woodford, Michael, 1995. "Price-level determinacy without control of a monetary aggregate," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 43(1), pages 1-46, December.
  8. Barry Eichengreen & Charles Wyplosz, 1998. "The Stability Pact: more than a minor nuisance?," Economic Policy, CEPR & CES & MSH, vol. 13(26), pages 65-113, 04.
  9. Roubini, Nouriel & Sachs, Jeffrey D., 1989. "Political and economic determinants of budget deficits in the industrial democracies," European Economic Review, Elsevier, vol. 33(5), pages 903-933, May.
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  13. Liviatan, Nissan, 1982. "Neutrality of government bonds reconsidered," Journal of Public Economics, Elsevier, vol. 19(2), pages 261-270, November.
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  16. Buti, Marco & Franco, Daniele & Ongena, Hedwig, 1998. "Fiscal Discipline and Flexibility in EMU: The Implementation of the Stability and Growth Pact," Oxford Review of Economic Policy, Oxford University Press, vol. 14(3), pages 81-97, Autumn.
  17. Uhlig, H.F.H.V.S. & Beetsma, R.M.W.J., 1997. "An Analysis of the Stability Pact," Discussion Paper 1997-59, Tilburg University, Center for Economic Research.
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Citations

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Cited by:
  1. Barbara Annicchiarico, 2003. "Fiscal Policy and Exchange Rates," CEIS Research Paper 7, Tor Vergata University, CEIS.
  2. Paul Hiebert & Javier J. Pérez & Massimo Rostagno, 2002. "Debt reduction and automatic stabilisation," Economic Working Papers at Centro de Estudios Andaluces E2002/12, Centro de Estudios Andaluces.
  3. Carsten Detken & Vítor Gaspar & Bernhard Winkler, 2005. "On Prosperity and Posterity: The Need for Fiscal Discipline in a Monetary Union," Working Papers de Economia (Economics Working Papers) 30, Departamento de Economia, Gestão e Engenharia Industrial, Universidade de Aveiro.
  4. Silvia Sgherri, 2002. "The fiscal dimension of a common monetary policy: results with a non-Ricardian global model," The European Journal of Finance, Taylor & Francis Journals, vol. 8(4), pages 449-479.
  5. Padurean, Elena & Leonida, Ionel & Baltaretu, Camelia, 2010. "Evaluation Of The Fiscal-Budgetary Policy Sustainability In Romania," Studii Financiare (Financial Studies), Centre of Financial and Monetary Research "Victor Slavescu", vol. 14(4), pages 126-139.
  6. Annicchiarico, Barbara, 2003. "Government deficits, wealth effects and the price level in an optimizing model," Working Paper Series 0285, European Central Bank.

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