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Fiscal rules in a highly distorted economy

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  • Marattin, Luigi
  • Marzo, Massimiliano

Abstract

The objective of this paper is to investigate the optimality of EMU fiscal rules from a welfare perspective. We compute welfare-maximizing feedback coefficients for monetary and fiscal rules in a NK-DSGE with a high number of nominal and real distortions, calibrated on the Euro-area data. The framework includes imperfect competition, costly capital accumulation, consumption habits, price and wage stickiness, distortionary taxation on consumption, labor and capital income. Fiscal policy responds, alternatively, to total deficit, total government liabilities, and a linear combination of both targets. We show that the liabilities rule is welfare superior, but it does not provide enough output stabilization if not coupled with a non-zero response of monetary policy to output; optimal feedback coefficient are larger under debt targeting rather than deficit; under the current specification, a SGP-like rule seems highly suboptimal.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 11039.

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Date of creation: 09 Oct 2009
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Handle: RePEc:pra:mprapa:11039

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Keywords: Fiscal policy rules; welfare analysis; tax distortions; stabilization policies;

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  1. Jinill Kim & Sunghyun Henry Kim, 1999. "Spurious Welfare Reversals in International Business Cycle Models," Virginia Economics Online Papers 319, University of Virginia, Department of Economics.
  2. Edward C. Prescott, 1986. "Theory ahead of business cycle measurement," Staff Report, Federal Reserve Bank of Minneapolis 102, Federal Reserve Bank of Minneapolis.
  3. Peter N. Ireland, 2002. "Endogenous Money or Sticky Prices?," NBER Working Papers 9390, National Bureau of Economic Research, Inc.
  4. Rotemberg, Julio J, 1982. "Sticky Prices in the United States," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 90(6), pages 1187-1211, December.
  5. Argia Sbordone, 2002. "An optimizing model of U.S. wage and price dynamics," Proceedings, Federal Reserve Bank of San Francisco, Federal Reserve Bank of San Francisco, issue Mar.
  6. Stephanie Schmitt-Grohe & Martin Uribe, 2004. "Optimal Simple and Implementable Monetary and Fiscal Rules," NBER Working Papers 10253, National Bureau of Economic Research, Inc.
  7. Collard, Fabrice & Dellas, Harris, 2005. "Tax distortions and the case for price stability," Journal of Monetary Economics, Elsevier, Elsevier, vol. 52(1), pages 249-273, January.
  8. Erceg, Christopher J. & Henderson, Dale W. & Levin, Andrew T., 2000. "Optimal monetary policy with staggered wage and price contracts," Journal of Monetary Economics, Elsevier, Elsevier, vol. 46(2), pages 281-313, October.
  9. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, Elsevier, vol. 12(3), pages 383-398, September.
  10. Stephanie Schmitt-Grohé & Martín Uribe, 2006. "Optimal Simple and Implementable Monetary and Fiscal Rules: Expanded Version," NBER Working Papers 12402, National Bureau of Economic Research, Inc.
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Cited by:
  1. Reicher, Claire, 2014. "Systematic fiscal policy and macroeconomic performance: A critical overview of the literature," Economics Discussion Papers, Kiel Institute for the World Economy 2014-29, Kiel Institute for the World Economy.

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