Optimal Fiscal and Monetary Policy Under Imperfect Competition
33 Pages Posted: 28 Feb 2001
Date Written: February 2001
This Paper studies optimal fiscal and monetary policy under imperfect competition in a stochastic, flexible-price, production economy without capital. It shows analytically that in this economy the nominal interest rate acts as an indirect tax on monopoly profits. Unless the social planner has access to a direct 100% tax on profits, he will always find it optimal to deviate from the Friedman rule by setting a positive and time-varying nominal interest rate. The dynamic properties of the Ramsey allocation are characterized numerically. As in the perfectly competitive case, the labour income tax is remarkably smooth, whereas inflation is highly volatile and serially uncorrelated. An exact numerical solution method to the Ramsey conditions is proposed.
Keywords: Imperfect Competition, Optimal Fiscal and Monetary Policy, Ramsey Equilibria
JEL Classification: E52, E61, E63
Suggested Citation: Suggested Citation