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The Central Bank, the Treasury, or the Market: Which One Determines the Price Level?

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  • Plantin, Guillaume
  • Barthélemy, Jean
  • Mengus, Eric

Abstract

This paper studies a political-economy model in which the price level is the outcome of dynamic strategic interactions between a fiscal authority, a monetary authority, and investors in government bonds and reserves. The 'unpleasant monetarist arithmetic', whereby aggressive fiscal expansion forces the monetary authority to chicken out and to lose control of inflation, occurs only if the public sector lacks fiscal space, in the sense that public debt along the optimal fiscal path gets sufficiently close to the threshold above which the fiscal authority would find default optimal. Otherwise, monetary dominance prevails even though the central bank has neither commitment power nor fiscal backing.

Suggested Citation

  • Plantin, Guillaume & Barthélemy, Jean & Mengus, Eric, 2022. "The Central Bank, the Treasury, or the Market: Which One Determines the Price Level?," CEPR Discussion Papers 17407, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:17407
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    2. Carlos Goncalves & Mauro Rodrigues & Fernando Genta, 2022. "Elusive Unpleasantness," Working Papers, Department of Economics 2022_16, University of São Paulo (FEA-USP).

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    More about this item

    JEL classification:

    • 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
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation

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