Monetary and Fiscal Policy Interactions in the Post-war U.S
IMF Working Papers, November 1, 2010
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Bibliographic details
- Authors: Susan S. Yang, Nora Traum
- Published: November 1, 2010
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781455209439.001
Summary
- A New Keynesian model that permits two regimes — active monetary and passive fiscal policy (AMPF) and passive monetary and active fiscal policy (PMAF) — is fit to various U.S. samples from 1955 to 2007.
- Data in the pre-Volcker periods strongly prefer an AMPF regime.
- The estimation for pre-Volcker samples is not very informative about whether the inflation coefficient in the interest rate rule exceeds one.
- Whether a government spending increase yields positive consumption in a PMAF regime depends on price stickiness.
- An income tax cut can yield a negative labor response if monetary policy aggressively stabilizes output.
Model, Regimes, and Empirical Scope
- Model framework: New Keynesian model allowing for regime switches between AMPF and PMAF.
- Sample period: 1955 to 2007.
- Regimes defined:
- AMPF: active monetary policy, passive fiscal policy.
- PMAF: passive monetary policy, active fiscal policy.
Key Findings and Results
- Pre-Volcker data strongly prefer the AMPF regime.
- Estimation is inconclusive about whether the inflation coefficient in the interest rate rule exceeds one in pre-Volcker samples.
- Government spending increases under PMAF:
- The sign of the consumption response depends on price stickiness.
- Income tax cuts:
- Can produce a negative labor response when monetary policy aggressively stabilizes output.
Policy-Relevant Implications
- Interaction of fiscal and monetary regimes matters for macroeconomic transmission:
- The effectiveness and sign of fiscal multipliers (e.g., government spending on consumption) depend on the monetary-fiscal regime and microfoundations such as price stickiness.
- Monetary policy behavior (degree of output stabilization) can alter labor supply responses to fiscal measures like income tax cuts.
- Identification of regime (AMPF vs PMAF) is crucial when evaluating fiscal policy effects in historical samples.