1986 Reports

Coordination of Monetary and Fiscal Policies in the OECD

McKibbin, Warwick J.; Sachs, Jeffrey D.

Discontent with the functioning of the world monetary system has led to many proposals for international monetary reform. These proposals range from enhanced consultations under the current regime of floating exchange rates to a regime of fixed exchange rates, as proposed by Ronald McKinnon. In this paper we examine the implications of several alternative monetary arrangements for fiscal policy in the world economy. In particular we focus upon two issues. The first is the effects of alternative monetary arrangements on the international transmission of fiscal policy. The second is the implications of the alternative regimes for strategic aspects of fiscal policymaking. As is generally the case in the discussion of exchange regimes we find that the choice of the monetary system is crucially dependent upon the source and nature of the shocks hitting the world economy. In this paper we show that the monetary regime also has important implications for the transmission of fiscal policy in the world economy and for the nature of the strategic games played by fiscal authorities. Rigid rules of the game, as under fixed exchange rates, do not necessarily eliminate the inefficient equilibria that can occur when fiscal authorities behave non-cooperatively.