Fluctuating Macro Policies and the Fiscal Theory / Troy Davig, Eric M. Leeper.

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Davig, Troy

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Material type: Text

TextSeries: Working Paper Series (National Bureau of Economic Research) ; no. w11212.Publication details: Cambridge, Mass. National Bureau of Economic Research 2005.Description: 1 online resource: illustrations (black and white)Subject(s):

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Abstract: This paper estimates regime-switching rules for monetary policy and tax policy over the post-war period in the United States and imposes the estimated policy process on a calibrated dynamic stochastic general equilibrium model with nominal rigidities. Decision rules are locally unique and produce a stationary long-run rational expectations equilibrium in which (lump-sum) tax shocks always affect output and inflation. Tax non-neutralities in the model arise solely through the mechanism articulated by the fiscal theory of the price level. The paper quantifies that mechanism and finds it to be important in U.S. data, reconciling a popular class of monetary models with the evidence that tax shocks have substantial impacts. Because long-run policy behavior determines existence and uniqueness of equilibrium, in a regime-switching environment more accurate qualitative inferences can be gleaned from full-sample information than by conditioning on policy regime.

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Previous	nber w1121 Commodity Prices, Overshooting, Money Surprises, and Fed Credibility /	nber w11210 Asymmetric Crime Cycles /	nber w11211 Attention, Demographics, and the Stock Market /	nber w11212 Fluctuating Macro Policies and the Fiscal Theory /	nber w11213 Affirmative Action in Hierarchies /	nber w11214 Pitfalls of a State-Dominated Financial System: The Case of China /	nber w11215 Does Competition Among Public Schools Benefit Students and Taxpayers? A Comment on Hoxby (2000) /	Next

March 2005.

This paper estimates regime-switching rules for monetary policy and tax policy over the post-war period in the United States and imposes the estimated policy process on a calibrated dynamic stochastic general equilibrium model with nominal rigidities. Decision rules are locally unique and produce a stationary long-run rational expectations equilibrium in which (lump-sum) tax shocks always affect output and inflation. Tax non-neutralities in the model arise solely through the mechanism articulated by the fiscal theory of the price level. The paper quantifies that mechanism and finds it to be important in U.S. data, reconciling a popular class of monetary models with the evidence that tax shocks have substantial impacts. Because long-run policy behavior determines existence and uniqueness of equilibrium, in a regime-switching environment more accurate qualitative inferences can be gleaned from full-sample information than by conditioning on policy regime.