Fiscal Policy and the Inflation Target
24 Pages Posted: 16 Sep 2011
Date Written: September 14, 2011
Low interest rates in the United States have recently been accompanied by large fiscal stimulus. However, previous discussions of monetary policy did not anticipate this fiscal activism, leading to over-estimates of the costs of the zero lower bound and, hence, of the appropriate inflation target. To rectify this, I include counter-cyclical fiscal policy within a large-scale model of the US economy and find that it stabilizes activity at low interest rates. If fiscal policy behaves as it has recently, then the inflation target can remain near its pre-crisis level, despite increased volatility of macroeconomic shocks.
Keywords: fiscal policy, inflation target, zero lower bound
JEL Classification: E52, E62
Suggested Citation: Suggested Citation