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Optimal Fiscal and Monetary Policy in Customer Markets

  • David M. Arseneau

    ()

    (Federal Reserve Board)

  • Ryan Chahrour

    ()

    (Boston College)

  • Sanjay K. Chugh

    (Boston College)

  • Alan Finkelstein Shapiro

    ()

    (Universidad de los Andes)

This paper presents a model in which some goods trade in "customer markets." In these markets, advertising plays a critical role in facilitating long-lived relationships. We estimate both policy and non-policy parameters of the model (which includes New-Keynesian frictions) on U.S. data, including advertising expenditures. The estimated parameters imply a large congestion externality in the pricing of customer market goods. This pricing inefficiency motivates the analysis of optimal policy. When the planner has access to a complete set of taxes and chooses them optimally, fiscal policy eliminates the externalities with large adjustments in the tax rates that operate directly in customer markets; labor tax volatility remains low. If available policy instruments are constrained to the interest rate and labor tax, then the latter displays large and procyclical fluctuations, while the implications for monetary policy are largely unchanged from the model with no customer markets.

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Paper provided by Boston College Department of Economics in its series Boston College Working Papers in Economics with number 842.

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Date of creation: 18 Nov 2013
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Publication status: forthcoming, Journal of Money, Credit and Banking
Handle: RePEc:boc:bocoec:842
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