Creator: Chari, V. V., Christiano, Lawrence J., and Kehoe, Patrick J. Series: Working paper (Federal Reserve Bank of Minneapolis. Research Department) Number: 520 Keyword: Business cycles, Policy analysis, Exogenous growth model, Monetary policy, Optimal taxation, Friedman rule, and Fiscal policy Subject (JEL): E52 - Monetary Policy and E32 - Business Fluctuations; Cycles
Creator: Chari, V. V. and Kehoe, Patrick J. Series: Staff report (Federal Reserve Bank of Minneapolis. Research Department) Number: 251 Abstract:
We provide an introduction to optimal fiscal and monetary policy using the primal approach to optimal taxation. We use this approach to address how fiscal and monetary policy should be set over the long run and over the business cycle. We find four substantive lessons for policymaking: Capital income taxes should be high initially and then roughly zero; tax rates on labor and consumption should be roughly constant; state-contingent taxes on assets should be used to provide insurance against adverse shocks; and monetary policy should be conducted so as to keep nominal interest rates close to zero. We begin optimal taxation in a static context. We then develop a general framework to analyze optimal fiscal policy. Finally, we analyze optimal monetary policy in three commonly used models of money: a cash-credit economy, a money-in-the-utility-function economy, and a shopping-time economy.
Keyword: Capital income taxation, Tax smoothing, Friedman rule, Ramsey problems, and Primal approach Subject (JEL): E62 - Fiscal Policy, E52 - Monetary Policy, E60 - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook: General, E50 - Monetary Policy, Central Banking, and the Supply of Money and Credit: General, H30 - Fiscal Policies and Behavior of Economic Agents: General, and H21 - Taxation and Subsidies: Efficiency; Optimal Taxation