Despite accelerating debt levels, the real yield on U.S. Treasuries remains low due to investors' desire for their extreme safety and liquidity services. The convenience premium on Treasuries allows fiscal policy to pursue profligate budget plans without imposing inflationary threats on a low-interest-rate monetary policy. Exploring these economic relations in a change-point vector autoregression model, I estimate the time-varying properties of U.S. inflation and its stance of fiscal policy that characterize long-term debt cycles. An archetypal debt cycle consists of alternating phases of persistent deficits and surpluses in tandem with alternating patterns of inflation and fiscal stance. In line with these key properties found in the data, I present a simple analytical model based on the fiscal theory of the price level where the household has a preference for holding government bonds. Determinacy admits a standard passive monetary policy coupled with a broad range of active fiscal policy. When the real interest rate falls below the economy's growth rate, permanent fiscal deficits can be sustained in the long run. The model explains why fiscal inflation has largely remained benign over the past two decades.
@misc{TanBinUtil,title={Appetite for Treasuries, Debt Cycles, and Fiscal Inflation},author={Tan, Fei},year={2022},pdf={BinUtil.pdf},ppt={BinUtilSlides.pdf},bibtex_show={true},selected={true},note={working paper},abbr={WP},topic={Monetary and Fiscal Policy}}
We present a dynamic incomplete information model where monetary and fiscal policy instruments serve as endogenous signals for the private sector. We highlight a novel information channel of policy interactions, and show the general equilibrium (GE) information feedback between policies largely shapes the economy's response to policy shocks. We document a non-monotone signaling effect of policies with respect to the policy rule parameters. Our analysis shows the GE information feedback is quantitatively significant, and the model provides a unified explanation of the various policy impacts on inflation, the dynamics of survey expectations, and the missing inflation after the Great Recession.
@article{HanTanWuLearning,title={Learning from Monetary and Fiscal Policy},author={Han, Zhao and Tan, Fei and Wu, Jieran},year={2022},pdf={LearnMPFP.pdf},bibtex_show={true},selected={false},status={revision requested},abbr={WP},journal={Review of Economic Dynamics},topic={Monetary and Fiscal Policy}}
We examine monetary policy shifts by taking a new approach to regime switching in a small scale monetary DSGE model with threshold-type switching in the monetary policy rule. The policy response to inflation is allowed to switch endogenously between two regimes, hawkish and dovish, depending on whether a latent regime factor crosses a threshold level. Endogeneity stems from the historical impacts of structural shocks driving the economy on the regime factor. By estimating our DSGE model using the U.S. data, we quantify the endogenous feedback from each structural shock to the regime factor to understand the sources of the observed policy shifts. This new channel sheds new light on the interaction between policy changes and measured economic behavior.
@article{ChangMaihTanSwitching,title={Origins of Monetary Policy Shifts: A New Approach to Regime Switching in DSGE Models},author={Chang, Yoosoon and Maih, Junior and Tan, Fei},keywords={monetary policy, DSGE model, regime switching, latent autoregressive regime factor, endogenous feedback, expectations formation effects},journal={Journal of Economic Dynamics and Control},year={2021},volume={133},pages={104235},issn={0165-1889},bibtex_show={true},abbr={JEDC},pdf={EndoSwitchDSGE.pdf},doi={https://doi.org/10.1016/j.jedc.2021.104235},url={https://www.sciencedirect.com/science/article/abs/pii/S0165188921001706},topic={Monetary and Fiscal Policy}}
Is inflation ‘always and everywhere a monetary phenomenon’ or is it fundamentally a fiscal phenomenon? The answer hinges crucially on the underlying monetary–fiscal policy regime. Scant attention has been directed to the role of credit market frictions in discerning the policy regime, despite its growing importance in empirical macroeconomics. We augment a standard monetary model to incorporate fiscal details and credit market imperfections. These ingredients allow for both interpretations of the inflation process in a financially constrained environment. We find that introducing financial frictions to the model and adding financial variables to the dataset generate important identifying restrictions on the observed pattern between inflation and measures of financial and fiscal stress, to the extent that it overturns existing findings about which monetary–fiscal policy regime produced the U.S. data. To confront policy regime uncertainty, we propose the use of dynamic prediction pools and find strong cyclical patterns in the estimated historical regime weights.
@article{LiPeiTanFFStress,title={Financial Distress and Fiscal Inflation},journal={Journal of Macroeconomics},volume={70},pages={103353},year={2021},issn={0164-0704},doi={https://doi.org/10.1016/j.jmacro.2021.103353},url={https://www.sciencedirect.com/science/article/pii/S0164070421000549},author={Li, Bing and Pei, Pei and Tan, Fei},pdf={CreditRiskMF_v3.pdf},bibtex_show={true},abbr={JoM},topic={Monetary and Fiscal Policy},keywords={Monetary and fiscal policy, Financial frictions, Model comparison, Dynamic prediction pool}}