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Monetary-Fiscal Interaction and the Liquidity of Government Debt

Author

Listed:
  • Cristiano Cantore

    (Sapienza University of Rome)

  • Edoardo Leonardi

Abstract

How does the monetary and fiscal policy mix alter households’ saving incentives? And what are the resulting implications on the evolution and stabilization of the economy? To answer these questions, we build a heterogenous agents New Keynesian model where 3 different types of agents can save in assets with different liquidity profiles to insure against idiosyncratic risk. Policy mixes affect saving incentives differently according to their effect on the liquidity premium- the return difference between less liquid assets and public debt. We derive an intuitive analytical expression linking the liquidity premium with consumption differentials amongst different types of agents. Our analysis highlights the presence of two competing forces on the liquidity premium: a self-insurance-driven demand channel and a policy-driven supply channel. We show that the relative strength of the two is tightly linked to the policy mix in place and the type of business cycle shock hitting the economy.

Suggested Citation

  • Cristiano Cantore & Edoardo Leonardi, 2024. "Monetary-Fiscal Interaction and the Liquidity of Government Debt," Discussion Papers 2406, Centre for Macroeconomics (CFM).
    • Handle: RePEc:cfm:wpaper:2406
    as

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    File URL: https://www.lse.ac.uk/CFM/assets/pdf/CFM-Discussion-Papers-2024/CFMDP2024-06-Paper.pdf
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    References listed on IDEAS

    as
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    3. Cantore, Cristiano & Freund, Lukas B., 2021. "Workers, capitalists, and the government: fiscal policy and income (re)distribution," Journal of Monetary Economics, Elsevier, vol. 119(C), pages 58-74.
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    5. Leeper, Eric M., 1991. "Equilibria under 'active' and 'passive' monetary and fiscal policies," Journal of Monetary Economics, Elsevier, vol. 27(1), pages 129-147, February.
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    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    monetary-fiscal interaction; liquidity; government debt; HANK;
    All these keywords.

    JEL classification:

    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • 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
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy

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