| Abstract: | The time inconsistency of optimal monetary policy is due to the effects of tax distortions. Thus the issue of how to improve upon the time-consistent suboptimal monetary policy is related to that of the coordination of monetary and fiscal policy. We present a model with three players (the central bark, the fiscal authority, and wage setters) in which distortionary taxes are explicitly modelled. We show that binding commitments to monetary rules are not necessarily welfare improving if monetary and fiscal policy are not coordinated. We also examine the effects of different degrees of independence of the central bank. |
