DP12903 | Fiscal and Monetary Regimes: A Strategic Approach

Publication Date

05/01/2018

JEL Code(s)

Keyword(s)

Programme Area(s)

Network(s)

Abstract

This paper develops a full-fledged strategic analysis of Wallace’s “game of chicken”. A public sector facing legacy nominal liabilities is comprised of fiscal and monetary authorities that respectively set the primary surplus and the price level in a non-cooperative fashion. We find that the post 2008 feature of indefinitely postponed fiscal consolidation and rapid expansion of the Federal Reserve’s balance sheet is consistent with a strategic setting in which neither authority can commit to a policy beyond its current mandate, and the fiscal authority has more bargaining power than the monetary one at each date.