Nominal targeting in an economy with government debt

Bai, Y., Kirsanova, T. and Leith, C. (2017) Nominal targeting in an economy with government debt. European Economic Review, 94, pp. 103-125. (doi: 10.1016/j.euroecorev.2017.02.011)

Abstract

The fiscal policy environment central banks operate in can be radically different with respect to debt levels, maturity structures and whether or not fiscal adjustments are spending- or tax-based. Despite this, most analyses of monetary policy delegation schemes typically ignore the behavior of the fiscal policy maker. This paper investigates whether delegating either nominal income or price level targets to a monetary authority yields social gains in an economy with government debt, where the fiscal policymaker, acting strategically, may support or undermine the policies of the central bank. We argue that the fiscal environment plays an important role in determining the performance of monetary policy. The gains to price level targeting typically found in the literature can be overturned at empirically relevant debt-to-GDP ratios, when debt stabilization is achieved through spending cuts. In contrast these gains are retained if the fiscal authorities utilize taxes to respond to shocks and stabilize debt.

• Item Type: Articles
• Status: Published
• Refereed: Yes
• Glasgow Author(s) Enlighten ID: Kirsanova, Professor Tatiana and Leith, Professor Campbell and Bai, Ms Yuting
• Authors: Bai, Y., Kirsanova, T., and Leith, C.
• College/School: College of Social Sciences > Adam Smith Business School > Economics
• Journal Name: European Economic Review
• Publisher: Elsevier
• ISSN: 0014-2921
• ISSN (Online): 1873-572X
• Published Online: 09 March 2017
• Copyright Holders: Copyright © 2017 Elsevier B.V.
• First Published: First published in European Economic Review 94:103-125
• Publisher Policy: Reproduced in accordance with the copyright policy of the publisher