325_Lecture21_April18

325_Lecture21_April18 - FISCAL AND MONETARY INTERACTIONS...

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1 F ISCAL AND M ONETARY I NTERACTIONS A PRIL 18, 2011 April 18, 2011 2 M ONETARY P OLICY AND F ISCAL P OLICY Introduction ± Chapter 7: studied fiscal policy in isolation from monetary policy ± Illustrated some core issues of fiscal policy (i.e., lifetime budget constraint of government, Ricardian Equivalence) ± Chapter 14: studied monetary policy in isolation from fiscal policy ± Illustrated some core issues of monetary policy (i.e., neutrality debate, long-run monetarist link between money growth and inflation) ± Monetary policy and fiscal policy don’t occur in vacuums isolated from each other ± Both occur simultaneously ± The conduct of fiscal policy can place restrictions on what monetary policy can do, and vice-versa ± Chapter 15: Interactions between fiscal and monetary policy ± Focus on dynamic unfolding of events ± Main idea: budget constraints/balance sheets of one policy authority affect the other policy authority
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2 April 18, 2011 3 M ONETARY P OLICY AND F ISCAL P OLICY Model Structure ± Representative consumer will be “in the background,” not the focus, of analysis in Chapter 15 ± No explicit utility maximization problems, etc. ± But we know where optimal choices of c t and M t / P t etc. come from… ± Focus will just be on government actions ± An infinite-period framework ± Two distinct “sides” of the government ± Fiscal authority – i.e., Congress/Treasury ± Controls government spending g t ± Collects taxes T t (will assume only lump-sum taxes throughout) ± Issues (sells) new bonds (for various financing needs) ± Monetary authority (aka central bank) – i.e., Fed ± Controls money supply of economy… ± …by engaging in open-market operations April 18, 2011 4 M ONETARY P OLICY AND F ISCAL P OLICY ± Representative consumer will be “in the background,” not the focus, of analysis in Chapter 15 ± No explicit utility maximization problems, etc. ± But we know where optimal choices of c t and M t / P t etc. come from… ± Focus will just be on government actions ± An infinite-period framework ± Two distinct “sides” of the government ± Fiscal authority – i.e., Congress/Treasury ± Controls government spending g t ± Collects taxes T t (will assume only lump-sum taxes throughout) ± Issues (sells) new bonds (for various financing needs) ± Receives “profits” from central bank (because it legally charters C.B.) ± Monetary authority (aka central bank) – i.e., Fed ± Controls money supply of economy… ± …by engaging in open-market operations ± Turns over any “profits” it earns to fiscal authority Balance sheet linkage between fiscal and monetary policy
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3 April 18, 2011 5 F ISCAL A UTHORITY Model Structure ± Fiscal authority budget constraint in period t ± B T t : the TOTAL amount of (one-period) bonds (each with FV = 1) Congress sells in period t , each of which has price P b t ± B T t -1 : the TOTAL amount of (one-period) bonds (each with FV = 1) that Congress must repay in period t ± RCB t : r eceipts (profits) turned over from the c entral b ank to the fiscal
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This document was uploaded on 11/01/2011 for the course ECON 325 at Maryland.

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325_Lecture21_April18 - FISCAL AND MONETARY INTERACTIONS...

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