Working Paper 616

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The Time Consistency of Monetary and Fiscal Policies

Fernando Alvarez - Consultant
Patrick J. Kehoe - Consultant
Pablo Neumeyer

Revised April 1, 2002

Are optimal monetary and fiscal policies time consistent in a monetary economy? Yes, but if and only if under commitment the Friedman rule of setting nominal interest rates to zero is optimal. This result is of applied interest because the Friedman rule is optimal for the standard preferences used in applied work, those consistent with the growth facts.

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