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The effects of secondary markets for government bonds on inflation dynamics

Author

Listed:
  • Begona Dominguez

    (University of Queensland)

  • Pedro Gomis-Porqueras

    (Deakin University)

Abstract

We analyze how trading in secondary markets for public debt changes the inherent links between monetary and fiscal policy, by studying both inflation and debt dynamics. When agents do not trade in these markets, there exists a unique monetary steady state and traditional passive/active policy prescriptions deliver locally determinate equilibria. In contrast, when agents trade in secondary markets and bonds are scarce, there exists a liquidity premium on public debt and bonds affect inflation dynamics and vice versa. In this monetary equilibrium, the government budget constraint can be satisfied for different combinations of inflation and debt. Thus, self-fulfilling beliefs that deliver multiple steady states are possible. Moreover, traditional passive/active policy prescriptions are not always useful in delivering locally determinate equilibria. However, monetary and fiscal policies can be used as an equilibrium selection device. We find that active monetary policies are more likely to deliver real and nominal determinacy when the long-run inflation target is low. (Copyright: Elsevier)

Suggested Citation

  • Begona Dominguez & Pedro Gomis-Porqueras, 2019. "The effects of secondary markets for government bonds on inflation dynamics," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 32, pages 249-273, April.
    • Handle: RePEc:red:issued:18-50
    DOI: 10.1016/j.red.2018.10.004
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    Cited by:

    1. Athanasios Geromichalos & Lucas Herrenbrueck, 2022. "The Liquidity-Augmented Model of Macroeconomic Aggregates: A New Monetarist DSGE Approach," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 45, pages 134-167, July.
    2. Andolfatto, David & Martin, Fernando M., 2018. "Monetary policy and liquid government debt," Journal of Economic Dynamics and Control, Elsevier, vol. 89(C), pages 183-199.
    3. Saroj Dhital & Pedro Gomis-Porqueras & Joseph H. Haslag, 2020. "Monetary and Fiscal Policy Interactions in a Frictional Model of Money, Nominal Public Debt and Banking," Working Papers 2002, Department of Economics, University of Missouri.
    4. Dhital, Saroj & Gomis-Porqueras, Pedro & Haslag, Joseph H., 2021. "Monetary and fiscal policy interactions in a frictional model of fiat money, nominal public debt and banking," European Economic Review, Elsevier, vol. 139(C).
    5. Marco Bassetto & Wei Cui, 2018. "The Fiscal Theory of the Price Level in an Environment of Low Interest Rates," 2018 Meeting Papers 574, Society for Economic Dynamics.
    6. Lukas Altermatt & Kohei Iwasaki & Randall Wright, 2023. "General Equilibrium with Multiple Liquid Assets," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 51, pages 267-291, December.
    7. Bassetto, Marco & Cui, Wei, 2018. "The fiscal theory of the price level in a world of low interest rates," Journal of Economic Dynamics and Control, Elsevier, vol. 89(C), pages 5-22.
    8. Carli, Francesco & Gomis-Porqueras, Pedro, 2021. "Real consequences of open market operations: The role of limited commitment," European Economic Review, Elsevier, vol. 132(C).
    9. Paola Boel & Christopher J. Waller, 2020. "On the Essentiality of Credit and Banking at the Friedman Rule," Working Papers 2020-018, Federal Reserve Bank of St. Louis.
    10. Begoña Domínguez & Pedro Gomis‐Porqueras, 2023. "Normalizing the Central Bank's Balance Sheet: Implications for Inflation and Debt Dynamics," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 55(4), pages 945-974, June.

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    More about this item

    Keywords

    Taxes; Inflation; Secondary markets; Liquidity premium;
    All these keywords.

    JEL classification:

    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation

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