Fiscal and Monetary Policy Interactions in a Model with Low Interest Rates; Professor Jianjun MIAO (Boston University)

Abstract

We provide a dynamic new Keynesian model in which entrepreneurs face uninsurable idiosyncratic investment risk and credit constraints. Government bonds provide liquidity services and raise net worth. Multiple steady states with positive values of public debt can be supported for a given permanent deficit-to-output ratio. The steady-state interest rates are lower than the economic growth rate and public debt contains a bubble component. We analyze the determinacy regions of policy parameter space and find that a large set of monetary and fiscal policy parameters can achieve debt and inflation stability given persistent fiscal deficits both away from and at the zero interest rate lower bound.

Click here to view paper.