The design of monetary and fiscal policy: A global perspective

We study the the emergence of multiple equilibria in models with capital and bonds under various monetary and …scal policies. We show that the presence of capital is indeed another independent source of local and global multiplicites, even under active policies that yield local determinacy. We also show how a very similar mechanism generates multiplicities in models with bonds and distortionary taxation. We then explore the design of monetary policies that avoid multiple equilibria. We show that interest rate policies that respond to the output gap, while potentially a source of signi…cant ine¢ ciencies, may be e¤ective in preventing multiple equilibria and costly oscillatory equilibrium dynamics. JEL Classi…cation Numbers: E52, E31, E63. Keywords: Taylor rules, …scal policy, multiple equilibria, global dynamics We thank Stephanie Schmitt-Grohe, John Leahy, Hakan Tasci, Martin Uribe, and Lutz Weinke for very useful comments. The views expressed in the paper are those of the authors and are not necessarily re‡ective of views at the Federal Reserve Bank of New York or the Federal Reserve System.