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Electoral Uncertainty, the Deficit Bias and the Electoral Cycle in a New Keynesian Economy

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  • Simon Wren-Lewis
  • Campbell Leith

Abstract

Recent attempts to incorporate optimal fiscal policy into New Keynesian models subject to nominal inertia, have tended to assume that policy makers are benevolent and have access to a commitment technology. A separate literature, on the New Political Economy, has focused on real economies where there is strategic use of policy instruments in a world of political conflict. In this paper we combine these literatures and assume that policy is set in a New Keynesian economy by one of two policy makers facing electoral uncertainty (in terms of infrequent elections and an endogenous voting mechanism). The policy makers generally share the social welfare function, but differ in their preferences over fiscal expenditure (in its size and/or composition). We use this model to examine three issues that arise from either literature. First, we consider the extent to which electoral competition gives rise to a debt or deficit bias, as one party seeks to win elections and tie the hands of a potential successor, when all debt is defined in nominal terms. Second we examine the extent and nature of the electoral cycle introduced by having two parties reflecting different preferences over either the composition or amount of government spending. Third, we examine whether electoral competition has any impact on the conventional business cycle stabilisation policy, compared to the standard analysis that assumes a single benevolent government.

Suggested Citation

  • Simon Wren-Lewis & Campbell Leith, 2009. "Electoral Uncertainty, the Deficit Bias and the Electoral Cycle in a New Keynesian Economy," Economics Series Working Papers 460, University of Oxford, Department of Economics.
  • Handle: RePEc:oxf:wpaper:460
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    File URL: http://www.economics.ox.ac.uk/materials/working_papers/paper460.pdf
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    Cited by:

    1. Faria, João Ricardo & McAdam, Peter, 2015. "Macroeconomic adjustment under regime change: From social contract to Arab Spring," Journal of International Money and Finance, Elsevier, vol. 56(C), pages 1-22.

    More about this item

    Keywords

    New Keynesian model; Government debt; Monetary policy; Fiscal policy; Electoral uncertainty; Time consistency;

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
    • 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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