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

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  • L. Lambertini
  • R. Rovelli

Abstract

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.

Suggested Citation

  • L. Lambertini & R. Rovelli, 2003. "Monetary and fiscal policy coordination and macroeconomic stabilization. A theoretical analysis," Working Papers 464, Dipartimento Scienze Economiche, Universita' di Bologna.
  • Handle: RePEc:bol:bodewp:464
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    References listed on IDEAS

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    Cited by:

    1. Ali al-Nowaihi & Sanjit Dhami, 2011. "Strategic monetary and fiscal policy interaction in a liquidity trap," Discussion Papers in Economics 11/43, Department of Economics, University of Leicester.
    2. Canale, Rosaria Rita, 2008. "Central bank reaction to public deficit and sound public finance: the case of the European Monetary Union," MPRA Paper 8789, University Library of Munich, Germany.
    3. René Cabral-Torres, "undated". "Monetary and Fiscal Policy Coordination," Discussion Papers 05/28, Department of Economics, University of York.
    4. Valeria De Bonis & Pompeo Della Posta, 2005. "Strategic interactions between monetary and fiscal authorities in a monetary union," Working Papers de Economia (Economics Working Papers) 26, Departamento de Economia, Gestão e Engenharia Industrial, Universidade de Aveiro.
    5. Mathan Satchi & Tatiana Kirsanova & David Vines, 2004. "Monetary Union: Fiscal Stabilisation In The Face Of Asymmetric Shocks," Royal Economic Society Annual Conference 2004 153, Royal Economic Society.
    6. L. Lambertini & R. Rovelli, 2002. "Optimal Fiscal Stabilization Policy With Credible Central Bank Independence," Working Papers 460, Dipartimento Scienze Economiche, Universita' di Bologna.
    7. Nilsson, Kristian, 2008. "Conceptual Framework for Fiscal Policy," Occasional Papers 16, National Institute of Economic Research.
    8. Cornel Oros, 2008. "Macroeconomic stabilization in a heterogeneous monetary union: some insights into the effects of fiscal policy coordination," Economics Bulletin, AccessEcon, vol. 5(34), pages 1-12.
    9. Andrew Blake & Tatiana Kirsanova, 2004. "Non-cooperative Monetary and Fiscal Policy: The Value of Leadership," Money Macro and Finance (MMF) Research Group Conference 2004 84, Money Macro and Finance Research Group.
    10. Kamal, Mona, 2010. "تجربة الاتحاد النقدي الأوروبي في مجال التنسيق بين السياستين المالية والنقدية
      [The Experience of the European Monetary Union in the Coordination of Monetary and Fiscal Policies]
      ," MPRA Paper 27764, University Library of Munich, Germany.
    11. Cornel Oros, 2009. "Economic Governance in an Asymmetric Monetary Union: A Fiscal Policy Game Analysis," European Research Studies Journal, European Research Studies Journal, vol. 0(3), pages 39-60.
    12. repec:ebl:ecbull:v:5:y:2008:i:34:p:1-12 is not listed on IDEAS
    13. Pires, Manoel Carlos de Castro & Rocha, Bruno & Goto, Fábio, 2010. "Fiscal policy in times of crisis: macroeconomic effects of the primary surplus," Revista CEPAL, Naciones Unidas Comisión Económica para América Latina y el Caribe (CEPAL), December.
    14. Damir Šehović, 2013. "General Aspects of Monetary and Fiscal Policy Coordination," Journal of Central Banking Theory and Practice, Central bank of Montenegro, vol. 2(3), pages 5-27.

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