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The central bank, the treasury, or the market: Which one determines the price level?

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  • Barthélemy, Jean
  • Mengus, Eric
  • Plantin, Guillaume

Abstract

This paper studies a model in which the price level is the outcome of dynamic strategic interactions between fiscal and monetary authorities that pursue distinct objectives. The “unpleasant monetarist arithmetic”, whereby aggressive fiscal expansion forces the monetary authority to chicken out and to lose control of inflation, occurs only if the public sector lacks fiscal space, in the sense that public debt along the optimal fiscal path gets sufficiently close to the threshold above which the fiscal authority would find default optimal. Otherwise, monetary dominance prevails even though the central bank has neither commitment power nor fiscal backing.

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  • Barthélemy, Jean & Mengus, Eric & Plantin, Guillaume, 2024. "The central bank, the treasury, or the market: Which one determines the price level?," Journal of Economic Theory, Elsevier, vol. 220(C).
    • Handle: RePEc:eee:jetheo:v:220:y:2024:i:c:s0022053124000917
    DOI: 10.1016/j.jet.2024.105885
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    3. Andryushin, S., 2024. "Interest rate policy of the Bank of Russia in conditions of fiscally-dominant regime: Risks and prospects," Journal of the New Economic Association, New Economic Association, vol. 62(1), pages 211-219.

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    More about this item

    Keywords

    Fiscal-monetary interactions; Game of chicken;

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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