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Monetary and fiscal policy coordination and macroeconomic stabilization. A theoretical analysis

Listed author(s):
  • L. Lambertini
  • R. Rovelli

We examine the relations between monetary and fiscal policies in the process of macroeconomic stabilization.Our model suggests that each policimaker prefers to be the second mover in a “Stakelberg” situation, i.e. where one policy makers precommits its policy choce. At the same time, both Stakelberg solutions are preferable, for each policumaker, to the Nash solution. We argue that there is a natural way to choose among two Stakelberg games. The solution implies that the government acts as a leader and sets fiscal policy according to the minimization of the Social Welfare Function (which fully internalizes also the objective of price stability). This optimal solution mirrors the existing institutional arrangements, where fiscal policy decisions ate typically taken before, and less frequently than monetary policy decisions. We interpret our results in relation to the debate on monetary-fiscal coordination in EMU and on the role of the Stability and Growth Pact. We argue that a coordination mechanism along the lines of the Broad Economic Policy is desirable.

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Paper provided by Dipartimento Scienze Economiche, Universita' di Bologna in its series Working Papers with number 464.

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Date of creation: 2003
Handle: RePEc:bol:bodewp:464
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  3. Beetsma, Roel & Uhlig, Harald, 1999. "An Analysis of the Stability and Growth Pact," Economic Journal, Royal Economic Society, vol. 109(458), pages 546-571, October.
  4. Roel M. W. J. Beetsma & Xavier Debrun & Franc Klaassen, 2001. "Is Fiscal Policy Coordination in EMU Desirable?," IMF Working Papers 01/178, International Monetary Fund.
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  9. Woodford, Michael, 1995. "Price-level determinacy without control of a monetary aggregate," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 43(1), pages 1-46, December.
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  11. L. Lambertini & R. Rovelli, 2002. "Optimal Fiscal Stabilization Policy With Credible Central Bank Independence," Working Papers 460, Dipartimento Scienze Economiche, Universita' di Bologna.
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  18. Bulow, Jeremy I & Geanakoplos, John D & Klemperer, Paul D, 1985. "Multimarket Oligopoly: Strategic Substitutes and Complements," Journal of Political Economy, University of Chicago Press, vol. 93(3), pages 488-511, June.
  19. Dixit, Avinash & Lambertini, Luisa, 2001. "Monetary-fiscal policy interactions and commitment versus discretion in a monetary union," European Economic Review, Elsevier, vol. 45(4-6), pages 977-987, May.
  20. Guy Debelle & Stanley Fischer, 1994. "How independent should a central bank be?," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, vol. 38, pages 195-225.
  21. Alan S. Blinder, 1997. "Distinguished Lecture on Economics in Government: What Central Bankers Could Learn from Academics--And Vice Versa," Journal of Economic Perspectives, American Economic Association, vol. 11(2), pages 3-19, Spring.
  22. Persson, Torsten & Tabellini, Guido, 1993. "Designing institutions for monetary stability," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 53-84, December.
  23. Uhlig, H.F.H.V.S., 2002. "One Money, But Many Fiscal Policies in Europe : What are the Consequences?," Discussion Paper 2002-32, Tilburg University, Center for Economic Research.
  24. Walsh, Carl E, 1995. "Optimal Contracts for Central Bankers," American Economic Review, American Economic Association, vol. 85(1), pages 150-167, March.
  25. Alesina, Alberto & Tabellini, Guido, 1987. "Rules and Discretion with Noncoordinated Monetary and Fiscal Policies," Economic Inquiry, Western Economic Association International, vol. 25(4), pages 619-630, October.
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