Central Bank and Government in a Speculative Attack Model

53 Pages Posted: 22 Nov 2013

Date Written: September 20, 2013

Abstract

This paper studies the interaction between monetary and fiscal authorities while investors are coordinating on a speculative attack. The authorities want to achieve specific targets for output and inflation but also to avoid a regime change (i.e. sovereign default). They use the traditional policy instruments. The model examines the informational role of simultaneous implementation of monetary and fiscal policies in coordination environments. While endogenous information generated by the intervention of one policy maker has been shown to lead to multiple equilibria, we show that if the actions chosen by the central bank and the government not only deliver information to the markets but also influence the fundamentals of the economy, when the authorities have a strong incentive to preserve the status quo over other objectives, then there is no equilibrium in which investors' strategies depend monotonically on their private information on fundamentals.

Keywords: global games, complementarities, signaling, self-fulfilling expectations, multiple equilibria, crises, regime change, policy interactions

JEL Classification: C7, D8, E5, E6, F3

Suggested Citation

Cappelletti, Giuseppe and Esposito, Lucia, Central Bank and Government in a Speculative Attack Model (September 20, 2013). Bank of Italy Temi di Discussione (Working Paper) No. 934, Available at SSRN: https://ssrn.com/abstract=2358461 or http://dx.doi.org/10.2139/ssrn.2358461

Giuseppe Cappelletti

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

Lucia Esposito (Contact Author)

Bank of Italy

Via Nazionale 91
Rome, 00184
Italy

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