Sargent and Wallace and the Neutrality of Money

Question 1

role of fiscal authority

Answer 1

finances constant primary deficit issuing debt

Question 2

monetary authority

Answer 2

finances the shortfall via seigniorage

Question 3

Budget constraint of the government

Answer 3

The sum primary deficit + the debt + interest on debt must sum to the new issuance of debt (in next period) + seignorage revenue

Question 4

debt/GDP ratio _____ with the level of the deficit

Answer 4

increases

Question 5

high growth rate of money means that the deficit is financed via more _______ and less ___

Answer 5

More seigniorage and less debt

Question 6

catastrophe date T (when will it happen?)

Answer 6

The date when the debt/GDP ratio reaches its upper bound

Question 7

catastrophe date implications

Answer 7

the fiscal authority can no longer issue debt, so the monetary authority needs to issue more money and tolerate inflation (i.e. seignorage is the only new source of revenue)

Question 8

tradeoff of the monetary authority

Answer 8

low inflation today w/ earlier catastrophe date OR higher inflation today and postpone catastrophe date indefinitely

Question 9

policy implications of Cagan model

Answer 9

persistent deficits are inflationary

Question 10

proposal to solve the dilemma

Answer 10

fiscal consolidation and independent Central Banks and not running persistent deficits