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American Economic Review Vol. 102 No. 3 2012

Monetary-Fiscal Policy Interactions and Indeterminacy in Postwar US Data

Saroj Bhattarai1; Jae Won Lee2; Woong Yong Park3

1 Pennsylvania State University, 615 Kern Building, University Park, PA 16802. · 2 Rutgers University, 75 Hamilton Street, NJ Hall, New Brunswick, NJ 08901. · 3 University of Hong Kong, School of Economics and Finance, Pokfulam Road, Hong Kong SAR.

Abstract

Using a micro-founded model and a likelihood-based inference method, we show that while a passive monetary and passive fiscal policy regime prevailed in the U.S. before Paul Volcker's chairmanship at the Federal Reserve, an active monetary and passive fiscal policy regime prevailed after his appointment. Since both monetary and fiscal policies were passive pre-Volcker, equilibrium indeterminacy was a feature of the economy. Finally, pre-Volcker, the effects of unanticipated policy shifts were substantially different from those predicted by conventional monetary models: unanticipated increases in interest rates increased inflation and output, while unanticipated increases in lump-sum taxes decreased inflation and output.

DOI
10.1257/aer.102.3.173
Volume
102
Issue
3
Pages
173-178
Language
en
Sources
bibtex:phds-export.bib openalex crossref

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