Advertisement

Journal of Evolutionary Economics

, Volume 29, Issue 2, pp 563–580 | Cite as

Nonlinear policy behavior, multiple equilibria and debt-deflation attractors

  • Alessandro PiergalliniEmail author
Regular Article
  • 107 Downloads

Abstract

This paper analyzes global dynamics in a macroeconomic model where both monetary and fiscal policies are nonlinear, consistent with empirical evidence. Nonlinear monetary policy, in which the nominal interest rate features an increasing marginal reaction to inflation, interacting with nonlinear fiscal policy, in which the primary budget surplus features an increasing marginal reaction to debt, gives rise to four steady-state equilibria. Each steady state exhibits in its neighborhood a pair of ‘active’/‘passive’ monetary/fiscal policies à la Leeper-Woodford, and is typically investigated in isolation within linearized monetary models. We show that, when global nonlinear dynamics are taken into account, such steady states are endogenously connected. In particular, the global dynamics reveals the existence of infinite self-fulfilling paths that originate around the steady states locally displaying either monetary or fiscal ‘dominance’—and thus locally delivering equilibrium determinacy—as well as around the unstable steady state with active monetary-fiscal policies, and that converge into an unintended high-debt/low-inflation (possibly deflation) attractor. Such global trajectories—bounded by two heteroclinic orbits connecting the three out-of-the-trap steady states—are, however, obscured if the four monetary-fiscal policy mixes are studied locally and disjointly.

Keywords

Nonlinear monetary and fiscal policy behavior Evolutionary macroeconomic modeling Multiple equilibria Global nonlinear dynamics Debt-deflation traps 

JEL Classification

E52 E62 E63 D91 C61 C62 

Notes

Acknowledgements

I am very grateful to three anonymous referees for many valuable comments and suggestions. I also wish to thank Giorgio Rodano for very helpful discussions on this line of enquiry and Paolo Canofari, Alessia Franzini, Alessandro Leopardi and Michele Postigliola for very useful comments and remarks. The usual disclaimers apply.

Compliance with Ethical Standards

Conflict of Interest

The author declares that he has no conflict of interest.

References

  1. Agliari A, Naimzada A, Pecora N (2017) Nonlinear monetary policy rules in a pure exchange overlapping generations model. J Evol Econ 27:1181–1203CrossRefGoogle Scholar
  2. Alesina A, Drazen A (1991) Why are stabilizations delayed?. Amer Econ Rev 81:1170–1188Google Scholar
  3. Arestis P, Cipollini A, Fattouh B (2004) Threshold effects in the U.S. budget deficit. Econ Inq 42:214–222CrossRefGoogle Scholar
  4. Arghyrou MG, Luintel KB (2007) Government solvency: revisiting some EMU countries. J Macroecon 29:387–410CrossRefGoogle Scholar
  5. Arghyrou MG, Fan J (2013) UK fiscal policy sustainability, 1955-2006. Manchester Sch 81:961–991Google Scholar
  6. Bajo-Rubio O, Diaz-Roldan C, Esteve V (2004) Searching for threshold effects in the evolution of budget deficits: an application to the Spanish case. Econ Lett 82:239–243CrossRefGoogle Scholar
  7. Bajo-Rubio O, Diaz-Roldan C, Esteve V (2006) Is the budget deficit sustainable when fiscal policy is non-linear? The case of Spain. J Macroecon 28:596–608CrossRefGoogle Scholar
  8. Benhabib J, Schmitt-Grohé S, Uribe M (2001) The perils of Taylor rules. J Econ Theory 96:40–69CrossRefGoogle Scholar
  9. Benhabib J, Schmitt-Grohé S, Uribe M (2002) Avoiding liquidity traps. J Polit Econ 110:535–563CrossRefGoogle Scholar
  10. Bertola G, Drazen A (1993) Trigger points and budget cuts: explaining the effects of fiscal austerity. Amer Econ Rev 83:11–26Google Scholar
  11. Bohn H (1998) The behavior of U.S. public debt and deficits. Q J Econ 113:949–963CrossRefGoogle Scholar
  12. Brock WA (1974) Money and growth: the case of long-run perfect foresight. Int Econ Rev 15:750–777CrossRefGoogle Scholar
  13. Canzoneri MB, Cumby R, Diba B (2011) The interaction between monetary and fiscal policy. In: Friedman B, Woodford M (eds) Handbook of monetary economics. North-Holland/Elsevier, Amsterdam and Boston, pp 935–999Google Scholar
  14. Castro V (2011) Can central banks’ monetary policy be described by a linear (augmented) Taylor rule or by a nonlinear rule?. J Financ Stab 7:228–246CrossRefGoogle Scholar
  15. Chortareas G, Kapetanios G, Uctum M (2008) Nonlinear alternatives to unit root tests and public finances sustainability: some evidence from Latin American and Caribbean countries. Oxford Bullet Econ Stat 70:645–663CrossRefGoogle Scholar
  16. Cipollini A, Fattouh B, Mouratidis K (2009) Fiscal readjustments in the United States: a nonlinear time-series analysis. Econ Inq 47:34–54CrossRefGoogle Scholar
  17. Clarida R, Galí J, Gertler M (2000) Monetary policy rules and macroeconomic stability: Evidence and some theory. Quarter J Econ 115:147–180CrossRefGoogle Scholar
  18. Considine J, Gallagher LA (2008) UK debt sustainability: some nonlinear evidence and theoretical implications. Manchester Sch 76:320–335CrossRefGoogle Scholar
  19. Cukierman A, Muscatelli A (2008) Nonlinear taylor rules and asymmetric preferences in central banking: evidence from the United Kingdom and the United States. BE J Macroecon 8:1–31Google Scholar
  20. Dolado J, María-Dolores R, Naveira M (2000) Asymmetries in monetary policy rules: evidence for four central Banks. CEPR Discussion Papers 2441, C.E.P.R. Discussion Papers.Google Scholar
  21. Dolado J, Maria-Dolores R, Ruge-Murcia FJ (2004) Nonlinear monetary policy rules: some new evidence for the US. Stud Nonlinear Dyn Econ 8:1–32Google Scholar
  22. Dolado J, Maria-Dolores R, Naveira M (2005) Are monetary-policy reaction functions asymmetric?: The role of nonlinearity in the Phillips curve. Eurasian Econ Rev, Elsevier 49(2):485–503CrossRefGoogle Scholar
  23. Dosi G, Nelson RR (1994) An introduction to evolutionary theories in economics. J Evol Econ 4:153–172CrossRefGoogle Scholar
  24. Hayat A, Mishra S (2010) Federal reserve monetary policy and the non-linearity of the Taylor rule. Econ Modell 27:1292–1301CrossRefGoogle Scholar
  25. Klose J (2011) Asymmetric Taylor reaction functions of the ECB: an approach depending on the state of the economy. North Amer J Econ Financ 22:149–163CrossRefGoogle Scholar
  26. Kulikauskas D (2014) Nonlinear taylor rule for the European Central Bank. Econ Bullet 34:1798–1804Google Scholar
  27. Lee DJ, Son JC (2013) Nonlinearity and structural breaks in monetary policy rules with stock prices. Econ Modell 31:1–11CrossRefGoogle Scholar
  28. Leeper EM (1991) Equilibria under ‘Active’ and ‘Passive’ Monetary and fiscal policies. J Monet Econ 27:129–147CrossRefGoogle Scholar
  29. Leeper EM, Leith C (2016) Understanding inflation as a joint monetary-fiscal phenomenon. In: Taylor JB, Uhlig H (eds) Handbook of Macroeconomics 2. North-Holland/Elsevier, Amsterdam, pp 2305–2415Google Scholar
  30. Legrenzi G, Milas C (2012a) Nonlinearities and the sustainability of the government’s intertemporal budget constraint. Econ Inq 50:988–999CrossRefGoogle Scholar
  31. Legrenzi G, Milas C (2012b) Fiscal Policy Sustainability, Economic Cycle and Financial Crises: The Case of the GIPS, Working Paper Series 54-12, The Rimini Centre for Economic AnalysisGoogle Scholar
  32. Legrenzi G, Milas C (2013) Modelling the fiscal reaction functions of the GIPS based on state-varying thresholds. Econ Lett, Elsevier 121(3):384–389CrossRefGoogle Scholar
  33. Ma Y (2016) Nonlinear monetary policy and macroeconomic stabilization in emerging market economies: evidence from China. Econ Syst 40:461–480CrossRefGoogle Scholar
  34. Martin M, Milas C (2004) Modelling monetary policy: inflation targeting in practice. Economica 71:209–221CrossRefGoogle Scholar
  35. Miles W, Schreyer S (2012) Is monetary policy non-linear in Indonesia, Korea, Malaysia, and Thailand? A quantile regression analysis. Asian-Pac Econ Lit 26:155–166CrossRefGoogle Scholar
  36. Miles W, Schreyer S (2014) Is monetary policy non-linear in Latin America? A quantile regression approach to brazil, chile, mexico and peru. J Dev Areas 48:169–183CrossRefGoogle Scholar
  37. Naraidoo R, Paya I (2014) Forecasting monetary policy rules in South Africa. Int J Forecast 28:446–455CrossRefGoogle Scholar
  38. Nelson RR, Winter S (1982) An Evolutionary Theory of Economic Change. Belknap Press, CambridgeGoogle Scholar
  39. Neuenkirch M, Tillmann P (2014) Inflation targeting, credibility, and non-linear Taylor rules. J Int Money Financ 41:30–45CrossRefGoogle Scholar
  40. Petersen KB (2007) Does the Federal Reserve Follow a Non-linear Taylor Rule?, Working Paper 2007-37 University of Connecticut, Department of EconomicsGoogle Scholar
  41. Piergallini A (2016) A note on nonlinear fiscal regimes and interest rate policy. Macroecon Dyn 20:832–844CrossRefGoogle Scholar
  42. Piergallini A, Postigliola M (2013) Non-linear budgetary policies: evidence from 150 years of Italian public finance. Econ Lett 121:495–498CrossRefGoogle Scholar
  43. Radzicki ML, Sterman GD (1994) Evolutionary economics and system dynamics. In: England RW (ed) Evolutionary concepts in contemporary economics. University of Michigan Press, Ann ArborGoogle Scholar
  44. Ramsey FP (1928) A mathematical theory of saving. Econ J 38:543–559CrossRefGoogle Scholar
  45. Reis R (2007) The analytics of monetary non-neutrality in the Sidrauski model. Econ Lett 94:129–135CrossRefGoogle Scholar
  46. Rotemberg JJ (1982) Sticky prices in the United States. J Polit Econ 90:1187–1211CrossRefGoogle Scholar
  47. Sarno L (2001) The behavior of US public debt: a nonlinear perspective. Econ Lett 74:119–125CrossRefGoogle Scholar
  48. Shen C-H, Lin K-L, Guo N (2016) The hawk or dove: switching regression model for the monetary policy reaction function in China. Pac-Basin Financ J 36:94–111CrossRefGoogle Scholar
  49. Sznajderska A (2014) Asymmetric effects in the polish monetary policy rule. Econ Modell 36:547–556CrossRefGoogle Scholar
  50. Taylor JB (1993) Discretion versus policy rules in practice. Carnegie-Rochester Conf Ser Publ Policy 39:195–214CrossRefGoogle Scholar
  51. Taylor MP, Davradaki E (2006) Interest rate setting and inflation targeting: evidence of a nonlinear Taylor rule for the United Kingdom. Stud Nonlinear Dyn Econ 10:1–20Google Scholar
  52. Woodford M (2003) Interest and prices. Princeton University Press, Princeton and OxfordGoogle Scholar

Copyright information

© Springer-Verlag GmbH Germany, part of Springer Nature 2018

Authors and Affiliations

  1. 1.Department of Economics and FinanceUniversity of Rome Tor VergataRomeItaly

Personalised recommendations