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Stepping on a rake: The role of fiscal policy in the inflation of the 1970s

  • Sims, Christopher A.

The inflation of the 1970s in the US is often discussed as if the only type of policy action that could have prevented the inflation were monetary policy actions and the only type of policy errors that might have induced the inflation were monetary policy errors. Yet fiscal policy underwent dramatic shifts in the 1970s and economic theory makes clear that in an environment of uncertainty about future fiscal policy, monetary policy instruments may lose potency or have perverse effects. This paper documents the vagaries of fiscal policy in this period and argues that people at the time must have been uncertain about fiscal policy's future course. It also lays out a theoretical framework for understanding the effects of fiscal uncertainties on monetary policy and shows that fiscal variables have predictive value in dynamic models, even if traditional monetary policy indicators are included in the system.

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Article provided by Elsevier in its journal European Economic Review.

Volume (Year): 55 (2011)
Issue (Month): 1 (January)
Pages: 48-56

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Handle: RePEc:eee:eecrev:v:55:y:2011:i:1:p:48-56
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  1. Michael Woodford, 1996. "Control of the Public Debt: A Requirement for Price Stability?," NBER Working Papers 5684, National Bureau of Economic Research, Inc.
  2. Sims, Christopher A, 1994. "A Simple Model for Study of the Determination of the Price Level and the Interaction of Monetary and Fiscal Policy," Economic Theory, Springer, vol. 4(3), pages 381-99.
  3. Leeper, Eric M., 1991. "Equilibria under 'active' and 'passive' monetary and fiscal policies," Journal of Monetary Economics, Elsevier, vol. 27(1), pages 129-147, February.
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