Skip to main content
Article thumbnail
Location of Repository

Monetary-Fiscal Policy Interactions and Fiscal Stimulus

By Troy Davig and Eric M. Leeper


Increases in government spending trigger substitution effects—both inter- and intra-temporal—and a wealth effect. The ultimate impacts on the economy hinge on current and expected monetary and fiscal policy behavior. Studies that impose active monetary policy and passive fiscal policy typically find that government consumption crowds out private consumption: higher future taxes create a strong negative wealth effect, while the active monetary response increases the real interest rate. This paper estimates Markov-switching policy rules for the United States and finds that monetary and fiscal policies fluctuate between active and passive behavior. When the estimated joint policy process is imposed on a conventional new Keynesian model, government spending generates positive consumption multipliers in some policy regimes and in simulated data in which all policy regimes are realized. The paper reports the model's predictions of the macroeconomic impacts of the American Recovery and Reinvestment Act's implied path for government spending under alternative monetary-fiscal policy combinations.

OAI identifier:

Suggested articles


  1. (1981). A Modigliani-Miller Theorem for
  2. (2002). An Empirical Characterization of the Dynamic Effects of Changes in Government Spending and Taxes on Output,”
  3. (1997). An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy,”
  4. (1998). Control of the Public Debt: A Requirement for Price Stability?,”
  5. (1991). Equilibria Under ‘Active’
  6. (2007). Explaining the Effects of Government Spending Shocks on Consumption and the Real Exchange Rate,”
  7. (2008). Fiscal Policy, Wealth Effects, and Markups,”
  8. (2007). Generalizing the Taylor Principle,”
  9. Governors of the Federal Reserve System (2008): “Press Release:
  10. (2007). Identifying Government Spending Shocks: It’s All in the Timing,” Manuscript,
  11. (1988). Identifying Policy Effects,” in Empirical Macroeconomics for Interdependent Economics,
  12. (2007). In Search of the Transmission Mechanism of Fiscal Policy,”
  13. (2003). Interest and Prices: Foundations of a Theory of Monetary Policy.
  14. (1988). Investment, Capacity Utilization,
  15. (1989). Macroeconomic Theory and Policy. Harper and Row,
  16. (2007). Monetary and Fiscal Policy Switching,”
  17. (2005). Money as
  18. (1986). Money Demand and the Effects of Fiscal Policies,”
  19. (1988). Money Demand in the United States: A Quantitative Review,”
  20. (2009). New Keynesian versus Old Keynesian Government Spending Multipliers,” Manuscript, Stanford University.POLICY
  21. (2008). Non-Separable Preferences, Fiscal Policy Puzzles and Inferior Goods,” forthcoming in
  22. (2008). Optimal Monetary Policy Under Uncertainty: A Markov JumpLinear-Quadratic Approach,” Federal Reserve Bank of St.
  23. (2005). Periodically Expanding Discounted Debt: A Threat to Fiscal Policy Sustainability?,”
  24. (2009). Regime Switches, Agents’ Beliefs, and Post-World War II U.S. Macroeconomic Dynamics,” Manuscript,
  25. (1981). Some Unpleasant Monetarist Arithmetic,” Federal Reserve Bank of Minneapolis Quarterly Review,
  26. (1983). Staggered Prices in a Utility Maximizing Model,”
  27. (1985). The Backing of Government Debt and Monetarism,”
  28. (2006). The Effect of Government Spending on Private Consumption: A Puzzle?,”
  29. (2009). The Job Impact of the American Recovery and Reinvestment Plan. Obama Transition Team,
  30. (1984). Time-Separable Preferences and Intertemporal-Substitution
  31. (2009). Understanding MarkovSwitching Rational Expectations Models,”
  32. (2007). Understanding the Effects of Government Spending on
  33. (2009). What Are the Effects of Fiscal Policy Shocks?,” forthcoming in
  34. (2007). Why Does Private Consumption Rise After a Government Spending Shock?,”

To submit an update or takedown request for this paper, please submit an Update/Correction/Removal Request.