Monetary and fiscal policy interactions in the post-war U.S

• Published in: European economic review Vol. 55; no. 1; pp. 140 - 164
• Main Authors: Traum, Nora, Yang, Shu-Chun S.
• Format: Journal Article
• Language: English
• Published: Amsterdam Elsevier B.V 2011; Elsevier; Elsevier Sequoia S.A
• Series: European Economic Review
• Subjects: Bayesian estimation; Consumption; Economic models; Estimation; Federal Reserve monetary policy; Fiscal and monetary policy interactions; Fiscal and monetary policy interactions New Keynesian models Bayesian estimation; Fiscal policy; Inflation; Keynesian theory; Longitudinal studies; Monetary policy; New Keynesian models; Public expenditure; Sticky prices; Studies; U.S.A; United States > US; Bayesian estimation; C11; E52; E63; New Keynesian models; H30; Fiscal and monetary policy interactions
• ISSN: 0014-2921; 1873-572X
• DOI: 10.1016/j.euroecorev.2010.11.009

A New Keynesian model allowing for an active monetary and passive fiscal policy (AMPF) regime and a passive monetary and active fiscal policy (PMAF) regime is estimated to fit various U.S. samples from 1955 to 2007. The results show that data in the pre-Volcker periods strongly prefer an AMPF regime, even with a prior centered in the PMAF region. The estimation, however, is not very informative about whether the Federal Reserve's reaction to inflation is greater than one in the pre-Volcker period, because much lower values can still preserve determinacy under passive fiscal policy. In addition, whether a PMAF regime can generate consumption growth following a government spending increase depends on the degree of price stickiness. An income tax cut can yield an unusual negative labor response if monetary policy aggressively stabilizes output growth.