Jointly Optimal Monetary and Fiscal Policy Rules under Borrowing Constraints

Author/Editor:

Michael Kumhof ; Huixin Bi

Publication Date:

December 1, 2009

Electronic Access:

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Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

We study the welfare properties of an economy where both monetary and fiscal policy follow simple rules, and where a subset of agents is borrowing constrained. The optimized fiscal rule is far more aggressive than automatic stabilizers, and stabilizes the income of borrowingconstrained agents, rather than output. The optimized monetary rule features super-inertia and a very low coefficient on inflation, which minimizes real wage volatility. The welfare gains of optimizing the fiscal rule are far larger than the welfare gains of optimizing the monetary rule. The preferred fiscal instruments are government spending and transfers targeted to borrowing-constrained agents.

Series:

Working Paper No. 09/286

Subject:

English

Publication Date:

December 1, 2009

ISBN/ISSN:

9781451874310/1018-5941

Stock No:

WPIEA2009286

Format:

Paper

Pages:

39

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