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POLICY INTERACTION, LEARNING, AND THE FISCAL THEORY OF PRICES

Published online by Cambridge University Press:  05 July 2007

GEORGE W. EVANS  and
SEPPO HONKAPOHJA
GEORGE W. EVANS
Affiliation:
University of Oregon
SEPPO HONKAPOHJA
Affiliation:
University of Cambridge
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Abstract

We investigate both the rational explosive inflation paths studied by McCallum (2001), and the classification of fiscal and monetary policies proposed by Leeper (1991), for stability under least squares (LS) learning of the rational expectations equilibria (REE). Our first result is that the explosive fiscalist REE is not locally stable under LS learning. In contrast, in Leeper's setting, there are policy regimes for which the fiscalist solution, in which fiscal variables affect the price level, can be a locally stable outcome under LS learning. However, for other policy regimes the monetarist solution is, instead, the locally stable REE.

Keywords

InflationExpectationsFiscal and Monetary PolicyExplosive Price Paths
Type
ARTICLES
Information
Macroeconomic Dynamics , Volume 11 , Issue 5 , November 2007 , pp. 665 - 690
Copyright
© 2007 Cambridge University Press

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