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Monetary and fiscal policy interactions in the post-war U.S

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  • Traum, Nora
  • Yang, Shu-Chun S.

Abstract

A New Keynesian model allowing for an active monetary and passive fiscal policy (AMPF) regime and a passive monetary and active fiscal policy (PMAF) regime is estimated to fit various U.S. samples from 1955 to 2007. The results show that data in the pre-Volcker periods strongly prefer an AMPF regime, even with a prior centered in the PMAF region. The estimation, however, is not very informative about whether the Federal Reserve's reaction to inflation is greater than one in the pre-Volcker period, because much lower values can still preserve determinacy under passive fiscal policy. In addition, whether a PMAF regime can generate consumption growth following a government spending increase depends on the degree of price stickiness. An income tax cut can yield an unusual negative labor response if monetary policy aggressively stabilizes output growth.

Suggested Citation

  • Traum, Nora & Yang, Shu-Chun S., 2011. "Monetary and fiscal policy interactions in the post-war U.S," European Economic Review, Elsevier, vol. 55(1), pages 140-164, January.
  • Handle: RePEc:eee:eecrev:v:55:y:2011:i:1:p:140-164
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