IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Login to save this paper or follow this series

Debt Stabilization Bias and the Taylor Principle; Optimal Policy in a New Keynesian Model with Government Debt and Inflation Persistence

  • David Vines
  • Sven Jari Stehn

We analyse optimal monetary and fiscal policy in a New-Keynesian model with public debt and inflation persistence. Leith and Wren-Lewis (2007) have shown that optimal discretionary policy is subject to a 'debt stabilization bias' which requires debt to be returned to its pre-shock level. This finding has two important implications for optimal discretionary policy. Firstly, as Leith and Wren-Lewis have shown, optimal monetary policy in an economy with high steady-state debt cuts the interest rate in response to a cost-push shock - and therefore violates the Taylor principle. We show that this striking result is not true with high degrees of inflation persistence. Secondly, we show that optimal fiscal policy is more active under discretion than commitment at all degrees of inflation persistence and all levels of debt.

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://www.imf.org/external/pubs/cat/longres.aspx?sk=21238
Download Restriction: no

Paper provided by International Monetary Fund in its series IMF Working Papers with number 07/206.

as
in new window

Length: 52
Date of creation: 01 Aug 2007
Date of revision:
Handle: RePEc:imf:imfwpa:07/206
Contact details of provider: Postal: International Monetary Fund, Washington, DC USA
Phone: (202) 623-7000
Fax: (202) 623-4661
Web page: http://www.imf.org/external/pubind.htm
Email:


More information through EDIRC

Order Information: Web: http://www.imf.org/external/pubs/pubs/ord_info.htm

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. Jordi Galí & J. David López-Salido, 2003. "Understanding the Effects of Government Spending on Consumption," Working Papers 73, Barcelona Graduate School of Economics.
  2. Clarida, Richard & Gali, Jordi & Gertler, Mark, 1997. "Monetary Policy Rules in Practice: Some International Evidence," Working Papers 97-32, C.V. Starr Center for Applied Economics, New York University.
  3. Jón Steinsson, 2000. "Optimal monetary policy in an economy with inflation persistence," Economics wp11, Department of Economics, Central bank of Iceland.
  4. Tatiana Kirsanova & Simon Wren-Lewis, 2007. "Optimal fiscal feedback on debt in an economy with nominal rigidities," Working Paper 2007-26, Federal Reserve Bank of Atlanta.
  5. Campbell Leith & Simon Wren-Lewis, 2006. "Fiscal Sustainability in a New Keynesian Model," Working Papers 2006_11, Business School - Economics, University of Glasgow, revised Nov 2008.
  6. Jordi Galí & Mark Gertler, 1998. "Inflation dynamics: A structural econometric analysis," Economics Working Papers 341, Department of Economics and Business, Universitat Pompeu Fabra.
  7. Pierpaolo Benigno & Michael Woodford, 2006. "Optimal Inflation Targeting under Alternative Fiscal Regimes," NBER Working Papers 12158, National Bureau of Economic Research, Inc.
  8. Stephanie Schmitt-Grohe & Martin Uribe, 2004. "Optimal Simple and Implementable Monetary and Fiscal Rules," NBER Working Papers 10253, National Bureau of Economic Research, Inc.
  9. Lars E. O. Svensson, 1996. "Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets," NBER Working Papers 5797, National Bureau of Economic Research, Inc.
  10. Richard Clarida & Jordi Gali & Mark Gertler, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," NBER Working Papers 7147, National Bureau of Economic Research, Inc.
  11. Barro, Robert J. & Gordon, David B., 1983. "Rules, discretion and reputation in a model of monetary policy," Journal of Monetary Economics, Elsevier, vol. 12(1), pages 101-121.
  12. Troy Davig & Eric M. Leeper, 2005. "Generalizing the Taylor principle," Research Working Paper RWP 05-13, Federal Reserve Bank of Kansas City.
  13. Srobona Mitra, 2007. "Is the Quantity of Government Debt a Constraint for Monetary Policy?," IMF Working Papers 07/62, International Monetary Fund.
  14. Simon Wren-Lewis & Tatiana Kirsanova, 2007. "Optimal Fiscal Feedback on Debt in an Economy with Nominal Rigidities," Economics Series Working Papers 306, University of Oxford, Department of Economics.
  15. Soderlind, Paul, 1999. "Solution and estimation of RE macromodels with optimal policy," European Economic Review, Elsevier, vol. 43(4-6), pages 813-823, April.
  16. Christopher Allsopp & David Vines, 2005. "The Macroeconomic Role of Fiscal Policy," Oxford Review of Economic Policy, Oxford University Press, vol. 21(4), pages 485-508, Winter.
  17. Nelson, Edward, 2001. "UK Monetary Policy 1972-97: A Guide Using Taylor Rules," CEPR Discussion Papers 2931, C.E.P.R. Discussion Papers.
  18. Garima Vasishtha & Taimur Baig & Manmohan S. Kumar & Edda Zoli, 2006. "Fiscal and Monetary Nexus in Emerging Market Economies; How Does Debt Matter?," IMF Working Papers 06/184, International Monetary Fund.
  19. 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.
  20. repec:cup:cbooks:9780521441964 is not listed on IDEAS
  21. Simon Wren-Lewis & Campbell Leith, 2007. "Fiscal Sustainability in a New Keynesian Model," Economics Series Working Papers 310, University of Oxford, Department of Economics.
  22. Dixit, Avinash K & Stiglitz, Joseph E, 1975. "Monopolistic Competition and Optimum Product Diversity," The Warwick Economics Research Paper Series (TWERPS) 64, University of Warwick, Department of Economics.
  23. Julio Rotemberg & Michael Woodford, 1997. "An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 297-361 National Bureau of Economic Research, Inc.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:imf:imfwpa:07/206. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Jim Beardow)

or (Hassan Zaidi)

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.