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Stabilizing Output and Inflation: Policy Conflicts and Co‐operation under a Stability Pact[Note 1. Earlier versions of this article have been presented in ...]
Author(s) -
Buti Marco,
Roeger Werner,
Veld Jan In't
Publication year - 2001
Publication title -
jcms: journal of common market studies
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.54
H-Index - 90
eISSN - 1468-5965
pISSN - 0021-9886
DOI - 10.1111/1468-5965.00332
Subject(s) - economics , complementarity (molecular biology) , inflation (cosmology) , monetary economics , deficit spending , fiscal policy , shock (circulatory) , balanced budget , price of stability , monetary policy , government (linguistics) , keynesian economics , macroeconomics , debt , politics , law , medicine , linguistics , philosophy , genetics , physics , theoretical physics , political science , biology
The article analyses in a simple setting a game between an inflation‐conservative central bank and a fiscal authority subject to an upper limit on the budget deficit. It is shown that complementarity or substitutability between the policies and the preference of each authority for the other authority's behaviour crucially depends on the type of shock hitting the economy. If the government attempts to stimulate output beyond its natural level, a ‘deficit bias’ emerges under non‐co‐operation; under co‐operation, the equilibrium is characterized by both a ‘deficit bias’ and an ‘inflation bias’. However, if the government only pursues cyclical stabilization these biases disappear and there are positive gains from co‐ordinating the policy responses to shocks.