nep-pbe New Economics Papers
on Public Economics
Issue of 2011‒02‒12
twenty-one papers chosen by
Keunjae Lee
Pusan National University

  1. Local Governments Tax Autonomy, Lobbying, and Welfare By Sandro Brusco; Luca Colombo; Umberto Galmarini
  2. Domestic and Trade Tax Reforms in the Presence of a Public Good and Different Neutrality Conditions By Michael S. Michael; Sajal Lahiri; Panos Hatzipanayotou
  3. State or Nature? Formal vs. Informal Sanctioning in the Voluntary Provision of Public Goods By Kenju Kamei; Louis Putterman; Jean-Robert Tyran
  4. State or Nature? Formal vs. Informal Sanctioning in the Voluntary Provision of Public Goods By Jean-Robert Tyran; Kenju Kamei; Louis Putterman
  5. Devolution and Accountability Effects in the Public Provision of Water Services in Indonesia By Catherine Rodríguez; Patricia Meirelles
  6. Increasing Public Sector Efficiency in Slovakia By Felix Hüfner
  7. Deficit Fundamentalism vs Fiscal Federalism: Implications of 13th Finance Commission's Recommendations By Chakraborty, Pinaki
  8. Threat and Punishment in Public Good Experiments By David Masclet; Charles N. Noussair; Marie-Claire Villeval
  9. Heterogeneity in Income Tax Incidence: Are the Wages of Dangerous Jobs More Responsive to Tax Changes than the Wages of Safe Jobs? By David Powell
  10. The optimal commodity tax system as a compromise between two objectives By MUNK, Knud J.
  11. Tax Evasion under Market Incompleteness By Marco Maffezzoli
  12. Optimum Commodity Taxation with a Non-Renewable Resource By Julien Daubanes; Pierre Lasserre
  13. Tax Policy and Employment: How Does the Swedish System Fare? By Pirttälä, Jukka; Selin, Håkan
  14. Income Taxes, Compensating Differentials, and Occupational Choice: How Taxes Distort the Wage-Amenity Decision By David Powell; Hui Shan
  15. Institutions promoting budgetary discipline: evidence from Swedish municipalities By Dietrichson, Jens; Ellegård, Lina Maria
  16. Tax-Benefit Systems in Europe and the US: Between Equity and Efficiency By BARGAIN Olivier; DOLLS Mathias; NEUMANN Dirk; PEICHL Andreas; SIEGLOCH Sebastian
  17. On the origin of the wta-wtp divergence in public good valuation By Emmanuel Flachaire; Guillaume Hollard; Jason Shogren
  18. Economic Integration in Europe and Income Divergence over EU Regions (1995 - 2006) By Sunandan Ghosh; Gerrit Faber
  19. Public-private partnerships versus traditional procurement: An experimental investigation By Eva I. Hoppe; David J. Kusterer; Patrick W. Schmitz
  20. OECD Educationtoday Crisis Survey 2010: The Impact of the Economic Recession and Fiscal Crisis on Education in OECD Countries By Dirk Van Damme; Kiira Karkkainen
  21. Modelling Monetary and Fiscal Policy in the US: A Cointegration Approach By J. James Reade

  1. By: Sandro Brusco (Department of Economics, Stony Brook University); Luca Colombo (Università Cattolica, Milan, Italy); Umberto Galmarini (Università dell’Insubria, Como, Italy)
    Abstract: What degree of tax autonomy should be granted to a regional government on a local tax base? Although the regional policy maker aims at maximizing social welfare, her tax policy may be distorted by the lobbying activity of local taxpayers. In this political environment we characterize the conditions under which social welfare can be increased by restricting the set of tax instruments available to the local policy maker, i.e. the degree of local tax autonomy. We show that full tax autonomy is likely to be dominated by minimal tax autonomy when there are many groups of similar size, while the converse occurs when tax bases are asymmetrically distributed.
    Keywords: Tax autonomy, lobbying, local public good provision
    JEL: D70 H71 H77
    Date: 2010–07
  2. By: Michael S. Michael; Sajal Lahiri; Panos Hatzipanayotou
    Abstract: This paper develops a perfectly-competitive general-equilibrium model of a small open economy with production of private traded goods and of a public good which is financed by revenues from trade and domestic taxes. Within this framework we consider the effects on public good provision and on welfare of the following tax reforms: (i) a producer-price-neutral reduction in export taxes and a corresponding increase in production taxes, (ii) a consumer-price-neutral reduction in tariffs and a corresponding increase in consumption taxes, and (iii) a partial tax-revenue-neutral reform in trade and domestic taxes.
    Keywords: Indirect tax reforms, Government tax revenue, Public good, Welfare
    Date: 2011–01
  3. By: Kenju Kamei (Brown University); Louis Putterman (Brown University); Jean-Robert Tyran (University of Vienna)
    Abstract: The sanctioning of norm-violating behavior by an effective formal authority is an efficient solution for social dilemmas. It is in the self-interest of voters and is often favorably contrasted with letting citizens take punishment into their own hands. Allowing informal sanctions, by contrast, not only comes with a danger that punishments will be misapplied, but also should have no efficiency benefit under standard assumptions of self-interested agents. We experimentally investigate the relative effectiveness of formal vs. informal sanctions in the voluntary provision of public goods. Unsurprisingly, we find that effective formal sanctions are popular and efficient when they are free to impose. Surprisingly, we find that informal sanctions are often more popular and more efficient when effective formal sanctions entail a modest cost. The reason is that informal sanctions achieve more efficient outcomes than theory predicts, especially when the mechanism is chosen by voting.
    Keywords: sanction; social dilemma; public goods; voluntary contribution mechanism; punishment; experiment
    JEL: C92 C91 D71 H41
    Date: 2011–02
  4. By: Jean-Robert Tyran; Kenju Kamei; Louis Putterman
    Abstract: The sanctioning of norm-violating behavior by an effective formal authority is an efficient solution for social dilemmas. It is in the self-interest of voters and is often favorably contrasted with letting citizens take punishment into their own hands. Allowing informal sanctions, by contrast, not only comes with a danger that punishments will be misapplied, but also should have no efficiency benefit under standard assumptions of self-interested agents. We experimentally investigate the relative effectiveness of formal vs. informal sanctions in the voluntary provision of public goods. Unsurprisingly, we find that effective formal sanctions are popular and efficient when they are free to impose. Surprisingly, we find that informal sanctions are often more popular and more efficient when effective formal sanctions entail a modest cost. The reason is that informal sanctions achieve more efficient outcomes than theory predicts, especially when the mechanism is chosen by voting.
    JEL: C92 C91 D71 H41
    Date: 2011–02
  5. By: Catherine Rodríguez; Patricia Meirelles
    Abstract: This paper separately evaluates how devolution and accountability, two distinct aspects of the decentralization reforms implemented in Indonesia in the year 2001, influenced the public provision of water services. Using household level data it is found that the devolution of responsibility does not necessarily affect the provision of public services. Our findings show that the quality of publicly provided water decreased only in cities in which devolution was accompanied by a change in accountability. Robustness checks suggest that these results are driven by changes in the accountability framework rather than trends in the health services.
    Date: 2010–11–04
  6. By: Felix Hüfner
    Abstract: Given the deterioration in public finances, there is now very little scope for higher spending. Raising public sector efficiency would free up resources and yield better outcomes with the same inputs, helping to stimulate productivity and thus potential growth. Raising efficiency in tax collection (notably VAT) is urgently needed, plans to unify the collection of tax and social security contributions should be implemented swiftly and drawing on EU funds needs to become more efficient. In addition, raising the efficiency in healthcare should be a priority. This involves dealing with the high out-of-pocket payments and reforming the remuneration structure of doctors. Pharmaceutical spending is excessive and can be reduced, notably by further fostering generic substitution. Impediments to competition among health insurance funds should be reconsidered and the risk-equalisation system should be improved. This paper relates to the 2010 OECD Economic Review of the Slovak Republic (<P>Accroître l'efficacité du secteur public en Slovaquie<BR>Étant donné la dégradation des finances publiques, il n’est guère possible désormais d’augmenter les dépenses. En améliorant l’efficacité du secteur public, on dégagerait des ressources et on obtiendrait de meilleurs résultats avec les mêmes intrants, ce qui contribuerait à stimuler la productivité et donc la croissance potentielle. Il est urgent d’améliorer l’efficacité de la collecte des impôts et taxes (notamment de la TVA) ; des plans visant à unifier le recouvrement de l’impôt et des cotisations de sécurité sociale doivent être mis en oeuvre rapidement et les dispositifs de tirage sur les fonds de l’UE doivent devenir plus efficaces. En outre, améliorer l’efficacité des soins de santé devrait être une priorité. Cela implique de s’attaquer au problème du montant élevé des paiements directs et de réformer le mode de rémunération des généralistes. Les dépenses pharmaceutiques sont excessives et peuvent être réduites, notamment en encourageant le recours aux génériques. Il faudrait réexaminer les entraves à la concurrence entre caisses d’assurance-maladie et améliorer le système de répartition équitable des risques. Ce document se rapporte à l’Étude économique de la République slovaque de l’OCDE, 2010 (
    Keywords: public sector efficiency, Slovakia, health policy, efficacité du secteur public, Slovaquie, politique de santé
    JEL: H21 H51 I11
    Date: 2011–02–03
  7. By: Chakraborty, Pinaki (National Institute of Public Finance and Policy)
    Abstract: The Thirteenth Finance Commission's recommendation to increase the vertical share of tax devolution to states will help, but its horizontal distribution formula leaves much to be desired. One, its design is such that two of the four key indicators are in conflict with each other. Two, the Commission's revised road map for fiscal consolidation at the centre and the states, which recommends state-specific, year-wise, fiscal adjustment paths, not only limits the fiscal manoeuvrability of states but also impinges on their fiscal autonomy. Three, its design of the grant for elementary education has the potential to reduce the expenditure of states rather than augment it. The need to look at intergovernmental transfers from the right perspective of federalism, where the states and the centre are seen as equal partners in development and not from a narrow technocratic viewpoint, cannot be stressed more.
    Date: 2011–01
  8. By: David Masclet; Charles N. Noussair; Marie-Claire Villeval
    Abstract: Experimental studies of social dilemmas have shown that while the existence of a sanctioning institution improves cooperation within groups, it also has a detrimental impact on group earnings in the short-run. Could the introduction of pre-play threats to punish have enough of a beneficial impact on cooperation, while not incurring the cost associated with actual punishment, so that they increase overall welfare? We report an experiment in which players can issue non-binding threats to punish others based on their contribution levels to a public good. After observing others’ actual contributions, they choose their actual punishment level. We find that threats increase the level of contributions significantly. Efficiency is improved, but only in the long run. However, the possibility of sanctioning differences between threatened and actual punishment leads to lower threats, cooperation and welfare, restoring them to levels equal to or below the levels attained in the absence of threats. <P>Les agents n’hésitent pas à sanctionner les resquilleurs dans des situations de dilemmes sociaux et cela a un effet positif sur la coopération. Toutefois, les mécanismes de sanction peuvent également générer des externalités négatives fortes sur les gains. Dans quelle mesure l’introduction de menaces non crédibles est-elle en mesure d’impacter positivement la coopération sans engendrer ces externalités négatives? Afin de répondre à cette question, nous avons réalisé une expérience dans laquelle les agents ont la possibilité d’annoncer combien ils seraient prêts à sanctionner les autres membres de leur groupe pour tous les montants possibles de contribution. Nous observons qu’introduire cette étape de menace a un effet positif sur la coopération. Toutefois, l’efficience en termes de gain n’est pas améliorée à long terme. La possibilité de sanctionner ceux qui punissent moins que ce qu’ils ont annoncé conduit les agents à réduire le niveau de menace et celui de la coopération.
    Keywords: Threats, cheap talk, sanctions, public good, experiment., Menaces, parler à bon marché, sanctions, bien public, expérience.
    JEL: C92 H41 D63
    Date: 2011–01–01
  9. By: David Powell
    Abstract: Income taxes distort the relationship between wages and non-taxable amenities. When the marginal tax rate increases, amenities become more valuable as the compensating differential for low-amenity jobs is taxed away. While there is evidence that the provision of amenities responds to taxes, the literature has ignored the consequences for job characteristics which cannot fully-adjust. This paper compares the wage response of dangerous jobs to the wage response of safe jobs. When tax rates increase, we should see the pre-tax compensating differential for on-the-job risk increase. Empirically, this paper finds large differences in the wage response of jobs based on their riskiness.
    Keywords: income taxes, value of a statistical life, tax incidence, compensating differentials
    JEL: H22 H24 J17 J28 J31
    Date: 2010–12
  10. By: MUNK, Knud J. (Faculté d'ingénierie biologique, agronomique et environnementale, Université catholique de Louvain, B-1348 Louvain-la-Neuve, Belgium)
    Abstract: Policy analysis in applied fields such as agricultural, trade, environmental and development policy is still often undertaken within a first-best, rather than a more realistic second-best framework. The present paper seeks to contribute to changing this state of affairs by providing an intuitive explanation of what determines the optimal tax system. It derives and interprets an optimal tax formula for an economy with many goods to explain the optimal tax system as reflecting a trade-off between, on the one hand, the objective of encouraging the supply of labour to the market and, on the other hand, the objective of limiting the distortion of the marginal rate of substitution between produced goods. It illustrates this insight by a quantitative general equilibrium model which does not impose separability between consumption and leisure. The analysis clarifies issues of normalisation and deepens the insight due to Corlett and Hague (1953) that goods should be taxed according to their complementarity with leisure.
    Keywords: public economics, optimal taxation, rules of normalisation, quantitative model of optimal taxation, Antonelli elasticity of complementarity
    JEL: H2
    Date: 2010–07–01
  11. By: Marco Maffezzoli
    Abstract: The available empirical evidence suggests that the distribution of income and its composition play an important role in explaining tax noncompliance. We address the issue from a macroeconomic point of view, building a dynamic general equilibrium Bewley model that jointly endogenizes the determinants of tax evasion and income heterogeneity. Our results show that the model can successfully replicate the salient qualitative and quantitative features of the data. In particular, the model replicates fairly well the shape of the cross-sectional distribution of misreporting rates over true income levels. Furthermore, we show that a switch from progressive to proportional taxation has important quantitative effects on noncompliance rates and tax revenues.
    Date: 2011
  12. By: Julien Daubanes; Pierre Lasserre
    Abstract: Optimum commodity taxation theory asks how to raise a given amount of tax revenue while minimizing distortions. We reexamine Ramsey’s inverse elasticity rule in presence of Hotelling-type non-renewable natural resources. Under standard assumptions borrowed from the non-renewable-resource-extraction and from the optimum-commodity-taxation literatures, we show that a non-renewable resource should be taxed in priority whatever its demand elasticity and whatever the demand elasticity of regular commodities. It should also be taxed at a higher rate than other commodities having the same demand elasticity and, while the tax on regular commodities should be constant, the resource tax should vary over time. The appropriate taxation rule depends on the government’s revenue needs; the higher these needs, the closer the consumer price to the monopoly price. Reserves are a form of capital and royalties tax its income; our results contradict Chamley’s conclusion that capital should not be taxed at all in the very long run. When reserves to be extracted are responsive to the taxation of extraction, in the absence of any subsidy to reserve discoveries, the optimal tax rate on extraction obeys an inverse elasticity rule almost identical to that of a commodity whose supply is perfectly elastic. As a matter of fact, there is a continuum of optimal combinations of extraction taxes and subsidies. When the government cannot commit, extraction rents are completely expropriated and subsidies are maximum. In general the optimum Ramsey tax not only causes a distortion of the extraction path, as happens when reserves are given, but also distorts the level of reserves developed for extraction. When that distortion is the sole effect of the tax, it is determined by a rule reminiscent of the inverse elasticity rule applying to elastically-supplied commodities. <P>La taxation optimale des biens cherche à lever des revenus fiscaux donnés en minimisant les distorsions. Nous réexaminons la règle de l’élasticité inverse de Ramsey en présence de ressources non-renouvelables à la Hotelling. Sous les hypothèses standard des littératures de l’extraction des ressources non-renouvelables et de la taxation optimale, une ressource non-renouvelable doit être taxée en priorité, quelles que soient l’élasticité de sa demande et l’élasticité de la demande pour les autres biens. Elle doit l’être à un taux plus élevé qu’un autre bien dont la demande est aussi élastique et, contrairement au taux s’appliquant aux biens conventionnels, ce taux doit varier dans le temps. La taxe dépend des besoins en revenus fiscaux; plus ils sont élevés, plus le prix correspondant s’approche du prix de monopole. Les réserves minérales constituent une forme de capital que taxent les royalties; Chamley a montré qu’il est néfaste de taxer le capital à très long terme. Au contraire, même lorsque les réserves à extraire dépendent du traitement fiscal de l’extraction, en l’absence de toute subvention à l’exploration, le taux optimal de la taxe obéit à la même règle d’élasticité inverse que les biens conventionnels dont l’offre est parfaitement élastique. En fait, il y a une infinité de combinaisons optimales de taxes à l’extraction et de subventions à la constitution de réserves. Si le gouvernement n’est pas en mesure de s’engager à s’abstenir de taxer les producteurs, ces derniers sont entièrement expropriés et ce sont des subventions qui doivent financer la constitution de réserves. En général, la taxe optimale de Ramsey cause une distorsion tant sur le profil d’extraction (comme lorsque les réserves sont données) que sur le volume des réserves lorsque celles-ci sont endogènes. Lorsque cette dernière distorsion est le seul effet de la taxe, elle obéit à une règle proche de celle qui s’applique aux biens conventionnels dont l’offre est élastique.
    Keywords: Optimum commodity taxation, inverse elasticity rule, non-renewable resources, hotelling resource, supply elasticity, demand elasticity, capital income taxation., Taxation optimale des biens, règle de l’élasticité inverse, ressources non-renouvelables, ressource hotellienne, élasticité de l’offre, élasticité de la demande, taxation du capital.
    JEL: Q31 Q38 H21
    Date: 2011–01–01
  13. By: Pirttälä, Jukka (University of Tampere and the Labour Institute for Economic Research); Selin, Håkan (Uppsala Center for Fiscal Studies)
    Abstract: This paper reviews the literature on optimal taxation of labour income and the empirical work on labour supply and the elasticity of taxable income in Sweden. It also presents an overview of Swedish taxation of labour income, offers calculations on the development in effective marginal tax rates and participation tax rates, and estimates, using the difference-in-differences method, the impact of tax incentives on employment rates of elderly workers. After this background, we ponder possibilities for reforming the Swedish tax system to improve its labour market impacts. We suggest better targeting the earned income tax credit at families and low-income workers, lowering the top marginal tax rates, and maintaining the tax incentives for older workers.
    Keywords: Optimal taxation; labour income taxation; labour supply; taxable income; Swedish tax system.
    JEL: H21 H24 J22
    Date: 2011–02–01
  14. By: David Powell; Hui Shan
    Abstract: The link between taxes and occupational choices is central for understanding the welfare impacts of income taxes. Just as taxes distort the labor-leisure decision, they also distort the wage-amenity decision. Yet, there have been few studies on the full response along this margin. When tax rates increase, workers favor jobs with lower wages and more amenities. The authors introduce a two-step methodology which uses compensating differentials to characterize the tax elasticity of occupational choice. They estimate a significant compensated elasticity of 0.03, implying that a 10% increase in the net-of-tax rate causes workers to change to a 0.3% higher wage job.
    Keywords: income taxes, occupational choice, compensating differentials
    JEL: H24 H31 J24
    Date: 2010–12
  15. By: Dietrichson, Jens (Department of Economics, Lund University); Ellegård, Lina Maria (Department of Economics, Lund University)
    Abstract: Conflicts of interest between planning and implementing branches create enforcement problems in the implementation of public sector budgets. We model the budget process as a dynamic game, which highlights the interplay between the institutional structure and players’ preferences. Using this framework, we collect unique data on budget institutions and preferences over fiscal sustainability to examine empirically how institutions influence the financial outcomes of Swedish municipalities. The estimations underline the importance of the interaction between institutions and preferences, as budget institutions exert a significant influence only in municipalities that report differences in preferences between levels of hierarchy. Specifically, the combination of a centralized budget process and a surplus carry-over rule is positively correlated to the financial outcome in municipalities that report such a conflict of interest.
    Keywords: budget institutions; public organizations; municipalities; deficit/surplus
    JEL: D02 D73 H61 H62 H72
    Date: 2011–01–31
  16. By: BARGAIN Olivier; DOLLS Mathias; NEUMANN Dirk; PEICHL Andreas; SIEGLOCH Sebastian
    Abstract: Whether observed di¤erences in redistributive policies across countries are the result of di¤erences in social preferences or e¢ ciency constraints is an important question that paves the debate about the optimality of welfare regimes. To shed new light on this question, we estimate labor supply elasticities on microdata and adopt an inverted optimal tax approach to characterize the redistributive preferences embodied in the welfare systems of 17 EU countries and the US. Implicit social welfare functions are broadly compatible with the ?ction of an optimizing Paretian social planner. Some exceptions due to generous demogrant transfers are consistent with the ignorance of behavioral responses by some European governments and are partly corrected by recent policy developments. Heterogeneity in leisure-consumption preferences somewhat a¤ect the international comparison in degrees of revealed inequality aversion, but di¤erences in social preferences are signi?cant only between broad groups of countries.
    Keywords: social preferences; redistribution; optimal income taxation; labor supply
    JEL: C63 D63 H11 H21
    Date: 2011–01
  17. By: Emmanuel Flachaire (GREQAM - Groupement de Recherche en Économie Quantitative d'Aix-Marseille - Université de la Méditerranée - Aix-Marseille II - Université Paul Cézanne - Aix-Marseille III - Ecole des Hautes Etudes en Sciences Sociales (EHESS) - CNRS : UMR6579); Guillaume Hollard (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris); Jason Shogren (Departement Economy and Finance, University of Wyoming - University of Wyoming)
    Abstract: This paper tests whether individual perceptions of markets as good or bad for a public good is correlated with the propensity to report gaps in willingness to pay (WTP) and willingness to accept (WTA) revealed within an incentive compatible mechanism. Identifying people based on a notion of market affinity, we find a substantial part of the gap can be explained by controlling for some variables that were not controlled for before. This result suggests the valuation gap for public goods can be reduced through well-defined variables.
    Keywords: behavioral economics; contingent valuation; WTA-WTP gap
    Date: 2011–02–01
  18. By: Sunandan Ghosh; Gerrit Faber
    Abstract: This paper tests the question whether the integration process in the EU has contributed to the often-observed growing dispersion of income over the regions of the EU, in the presence of convergence between the member states. We do this by introducing price convergence as an indicator of integration and controlling for the concentration of skilled labour and allowing for path dependency. Our main findings are in line with the expectations of the New Economic Geography School in that integration does contribute to the growing regional inequality in the EU. Price convergence is a significant explanatory variable even after the introduction of a time lag in the dependent variable
    Keywords: Economic integration, Regional inequality, European Union
    JEL: F11 F15 F22 R11
    Date: 2010–12
  19. By: Eva I. Hoppe (Department of Economics, University of Cologne); David J. Kusterer (Department of Economics, University of Cologne); Patrick W. Schmitz (Department of Economics, University of Cologne)
    Abstract: A government agency wants an infrastructure-based public service to be provided. Our experimental study compares two different modes of provision. In a public-private partnership, the two tasks of building the infrastructure and operating it are delegated to one private contractor (a consortium), while under traditional procurement, these tasks are delegated to separate contractors. We find support for the theoretical prediction that, compared to traditional procurement, a public-private partnership provides stronger incentives to make cost-reducing investments (which may increase or decrease service quality). In two additional treatments, we study governance structures which explicitly take subcontracting within private consortia into account.
    Keywords: experiment, incomplete contracts, procurement, public-private partnerships
    JEL: D86 H11 L33
    Date: 2011–01
  20. By: Dirk Van Damme; Kiira Karkkainen
    Abstract: The OECD Directorate for Education surveyed the impact of the economic recession on education for the first time in June 2009. Responses were received from seventeen OECD member countries, the Flemish Community of Belgian and two Canadian provinces. The results of the survey reflect the observations of officials in education ministries and public agencies in member countries regarding various aspects of the impact of the economic recession and fiscal crisis on education.
    Date: 2011–02
  21. By: J. James Reade
    Abstract: As governments and economists worldwide reflect on the unprecedented peacetime build-ups of government deficits and debts since 2008 and the Great Recession, the importance of fiscal and monetary policy interactions and their sustainability is key. This involves both thorough theoretical and careful econometric analysis. This paper provides the latter. We use multivariate cointegration methods to investigate monetary and fiscal interactions using the example of the United States since the early 1980s. Using survey data for inflation expectations, we find that monetary policymaking is heavily forward looking, and passive in the sense that it responds to policy rule. Fiscal policy is found to be active in that it does not respond to the fiscal policy rule discovered in the data. Entering into debates on the efficacy of fiscal policy, we find that in the long-term fiscal deficits are very harmful to growth, but in the short run fiscal stimuli can be effective in restoring the economy to equilibrium. The interactions between the two policy spheres appear somewhat limted in that neither policy tool enters the policy rule of the other policy sphere, but the more passive monetary policy does movwe in reaction to fiscal policy movements - the two policy spheres are complementary in that both respond in the same direction to revive and restrain the economy in downturns and boom times respectively.
    Keywords: Monetary policy, fiscal policy, policy interactions, cointegrated VAR method
    JEL: E52 E62 C01
    Date: 2011–01

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