The Macroeconomic Policy Mix in a Monetary Union with Flexible Inflation Targeting
Torben M. Andersen
University of Aarhus - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute); Centre for Economic Policy Research (CEPR); Institute for the Study of Labor (IZA)
U of Aarhus Dept. of Economics Working Paper No. 2003-2
Policy mix problems may arise in a monetary union with centralized monetary policy and decentralized fiscal policy. A consequence of this may be an inappropriate stabilization of shocks. This paper addresses how policy coordination problems are affected by the objectives of the monetary authority. It is shown that non-coordinated fiscal policies tend to be too counter-cyclical in the case of aggregate shocks, and that this bias can be reduced by lowering the weight to output stability in monetary policy. Oppositely, for country-specific shocks non-coordinated fiscal policies tend to be too procyclical and this bias can be reduced by increasing the weight to output stability in monetary policy. Considering the assignment of policy tasks - within the set of binding policy rules for fiscal and monetary policy - it is found that flexible inflation targeting dominates strict inflation targeting.
Number of Pages in PDF File: 28
Keywords: EMU, policy-mix, shocks and policy cooperation
JEL Classification: E52, E58, E61, E62, E63
Date posted: January 27, 2003
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