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Fiscal and Monetary Policy in a Monetary Union: Credible Inflation Targets or Monetised Debt?

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  • Thomas Krichel
  • Paul Levine
  • Joseph Pearlman

Abstract

The paper examines the interrelationship between fiscal and monetary policy in a two-country monetary union. The worst scenario occurs when an independent central bank (CB sets the nominal interest rate and responds to rising government debt/GDP ratios by monetisation. The result is high inflation, high debt/GDP ratios and a large public sector. Government debt and inflation are contained if the governments bear sole responsibility for solvency, but the public sector remains excessively large. The best scenario occurs if the CB removes the incentive for the governments to engineer surprise inflation by credible inflation targeting.

Suggested Citation

  • Thomas Krichel & Paul Levine & Joseph Pearlman, 1994. "Fiscal and Monetary Policy in a Monetary Union: Credible Inflation Targets or Monetised Debt?," School of Economics Discussion Papers 9403, School of Economics, University of Surrey.
    • Handle: RePEc:sur:surrec:9403
    Note: The paper was produced as part of a research programme on Economic and Monetary Union financed by the Leverhulme Trust. The authors acknowledge comments on earlier drafts of the paper made by participants at seminars or sessions given at Florida University, the RES Annual Conference 1992, the Money, Macroeconomics and Finance Study Group Annual Conference 1992 and Gdansk University. The usual disclaimer applies.
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Fritz Breuss & Andrea Weber, 1999. "Economic Policy Coordination in the EMU. How Much Scope will There be Within the Framework of the Stability and Growth Pact?," WIFO Working Papers 113, WIFO.
    2. Beetsma, Roel M. W. J. & Lans Bovenberg, A., 1998. "Monetary union without fiscal coordination may discipline policymakers," Journal of International Economics, Elsevier, vol. 45(2), pages 239-258, August.
    3. Beetsma, Roel M. W. J. & Lans Bovenberg, A., 1997. "Designing fiscal and monetary institutions in a second-best world," European Journal of Political Economy, Elsevier, vol. 13(1), pages 53-79, February.
    4. Beetsma, Roel M W J & Bovenberg, A Lans, 2000. "Designing Fiscal and Monetary Institutions for a European Monetary Union," Public Choice, Springer, vol. 102(3-4), pages 247-269, March.
    5. repec:spo:wpmain:info:hdl:2441/2943 is not listed on IDEAS
    6. repec:hal:spmain:info:hdl:2441/2943 is not listed on IDEAS
    7. Beetsma, Roel M. W. J. & Bovenberg, A. Lans, 1999. "Does monetary unification lead to excessive debt accumulation?," Journal of Public Economics, Elsevier, vol. 74(3), pages 299-325, December.
    8. Dor, Eric & Durré, Alain, 1999. "Stock Prices, Exchange Rates and Monetary Policy," LIDAM Discussion Papers IRES 2000001, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
    9. Croix de la, D. & Urbain, J.R.Y.J., 1996. "Intertemporal substitution in import demand and habit formation," Research Memorandum 004, Maastricht University, Maastricht Research School of Economics of Technology and Organization (METEOR).
    10. Jérôme Creel, 2001. "Faut-il contraindre la politique budgétaire en Union monétaire ?. Les enseignements d'une maquette simulée," Revue de l'OFCE, Presses de Sciences-Po, vol. 77(2), pages 199-249.
    11. Beetsma, R. & Bovenberg, A.L., 1995. "The role of public debt in the game of double chicken," Research Memorandum 025, Maastricht University, Maastricht Research School of Economics of Technology and Organization (METEOR).
    12. repec:hal:wpspec:info:hdl:2441/2943 is not listed on IDEAS
    13. Fritz Breuss & Andrea Weber, 1999. "Economic Policy Coordination in the EMU: Implications for the Stability Pact," EUI-RSCAS Working Papers 26, European University Institute (EUI), Robert Schuman Centre of Advanced Studies (RSCAS).
    14. Beetsma, Roel M. W. J. & Bovenberg, A. Lans, 1997. "Central bank independence and public debt policy," Journal of Economic Dynamics and Control, Elsevier, vol. 21(4-5), pages 873-894, May.
    15. Peter Mooslechner & Martin Schuerz, 1999. "International Macroeconomic Policy Coordination: Any Lessons for EMU? A Selective Survey of the Literature," Empirica, Springer;Austrian Institute for Economic Research;Austrian Economic Association, vol. 26(3), pages 171-199, September.
    16. repec:spo:wpecon:info:hdl:2441/2943 is not listed on IDEAS

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    Keywords

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    JEL classification:

    • 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
    • F15 - International Economics - - Trade - - - Economic Integration
    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions

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