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Policy mix under stress: review of economic reactions to fiscal and monetary policies using DSGE

Author

Listed:
  • Joanna Stawska

    (University of Lodz, Poland)

  • Paulo Reis Mourao

    (University of Minho, Portugal)

Abstract

The paper aims to review the studies with a particular emphasis on the response of selected economies to the central bank's monetary policy and the government's fiscal policy during various economic shocks developed using DSGE models. Countries generally have different financial structures, institutional frameworks, and macroeconomic policy transmission mechanisms. The authors better explain why some economies respond more effectively to central bank and government actions than others. The article uses a bibliometric analysis of the policy mix and DSGE, and presents a case study of theoretical policy mix modelling using DSGE. The central bank's monetary policy and the government's fiscal policy play a key role in stabilising the economy. Analysing their impact in different economic conditions allows for identifying optimal strategies depending on the nature of shocks. The study shows that the response of economies to various shocks (e.g., financial crises, pandemics, supply shocks) allows us to assess the effectiveness of stabilisation policies and their long-term consequences. DSGE models, extended with fiscal reaction functions and considering household financial constraints, help us understand how monetary and fiscal policy interactions affect economic fluctuations and inflation. A properly selected combination of monetary and fiscal policy can stabilise the economy. Still, its effectiveness depends on the type of economic shocks and the degree of activity of both policies.

Suggested Citation

  • Joanna Stawska & Paulo Reis Mourao, 2025. "Policy mix under stress: review of economic reactions to fiscal and monetary policies using DSGE," Entrepreneurship and Sustainability Issues, VsI Entrepreneurship and Sustainability Center, vol. 12(4), pages 477-496, June.
  • Handle: RePEc:ssi:jouesi:v:12:y:2025:i:4:p:477-496
    DOI: 10.9770/e2398362449
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    References listed on IDEAS

    as
    1. Buiter, Willem H., 1999. "The Fallacy of the Fiscal Theory of the Price Level," CEPR Discussion Papers 2205, C.E.P.R. Discussion Papers.
    2. Svensson, Lars E. O., 1997. "Inflation forecast targeting: Implementing and monitoring inflation targets," European Economic Review, Elsevier, vol. 41(6), pages 1111-1146, June.
    3. Mark Gertler & Jordi Gali & Richard Clarida, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Journal of Economic Literature, American Economic Association, vol. 37(4), pages 1661-1707, December.
    4. Britta Förster & Bernd Hayo, 2018. "Monetary and Fiscal Policy in Times of Crisis: A New Keynesian Perspective in Continuous Time," Manchester School, University of Manchester, vol. 86(1), pages 21-48, January.
    5. Signe Krogstrup & Sébastien Wälti, 2008. "Do fiscal rules cause budgetary outcomes?," Public Choice, Springer, vol. 136(1), pages 123-138, July.
    6. Svensson, Lars E. O., 2000. "Open-economy inflation targeting," Journal of International Economics, Elsevier, vol. 50(1), pages 155-183, February.
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    More about this item

    Keywords

    policy mix; DSGE models; monetary policy; fiscal policy; financial crisis; COVID-19; equilibrium;
    All these keywords.

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General
    • D50 - Microeconomics - - General Equilibrium and Disequilibrium - - - General

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