Achieving the Nash and Stackelberg Equilibrium in a Strategic Game between the Government and the Central Bank, Assuming the Uncertainty of the Financial Authority in Obtaining the Budget

Document Type : Scientific paper

Authors

1 Department of Economics, Vali-e-Asr University of Rafsanjan, Iran

2 Department of Mathematics, Vali-e-Asr University of Rafsanjan, Iran

Abstract

The purpose of this study is to investigate the interaction of behavior between two important players in the economy, namely the government and the central bank, despite the uncertainty of the government in achieving a certain level of budget. The goal of the government is to achieve the highest growth of the economy with the help of budgetary tools, and the goal of the central bank is to stabilize prices using the policy tool of interest rates. The existence of independence between two authorities was analyzed in the framework of two non-cooperative games and the leader-follower game (Stackelberg) based on the existing parameters in Iran's economy. The results of this research show that both the government's response to the increase in the political interest rate and the central bank's response to the increase in the government's budget deficit are expansionary. On the other hand, in the Nash equilibrium, an increase in the uncertainty variable of the government causes an increase in the loss function of the government and the central bank. Moreover, the change in the weight attributed to inflation by the financial authority in the constraint function causes the government's policy instrument to decrease in the Nash equilibrium. Therefore, it is recommended for both policies to always give significant weight to the inflation rate in their loss function in presenting their policy package and try to present a game in the case of independence of two politicians, in which the government plays the role of the leader and the central bank should play the role of follower.

Keywords

Main Subjects

References

Adam, K., & Billi, R. M. (2014). Distortionary Fiscal Policy and Monetary Policy Goals. Economics Letters, 122(1), 1-6.
Afonso, A., Alves, J., & Balhote, R. (2019). Interactions between monetary and fiscal policies. Journal of Applied Economics, 22(1), 132–151. https://doi.org/10.1080/15140326.2019. 1583309
Alesina, A., & Perotti, R. (1996). Budget deficits and budget institutions, NBER Paper No. 5
Alesina, A., & Tabellini, G. (1987). Rules and Discretion with No coordinated
Monetary and Fiscal Policies. Economic Inquiry, 25(4), 619-630.
Ankargreny, S., & Shahnazarian, H. (2019). The Interaction Between Fiscal and Monetary Policies: Evidence from Sweden. WORKING PAPER SERIES
Barro, R., & Gorden, D. (1983). Rules, Discretion, and Reputation in a Model ofMonetary Policy, Journal of Monetary Economics, 12, 20-101
Bartolomeo, G., & Giuli, F. (2011). Fiscal and monetary interaction under monetary policy uncertainty. European Journal of Political Economy, 27, 369–375
Basar, T., and Olsder, G. (1999). Dynamic Non cooperative game theory. SIAM. Philadelphia.
Bennett, H., & Loayza, N. (2000). Policy biases when the monetary and fiscal authorities have different objectives. Central Bank of Chile Working Papers, 66.
Bhattacharya, J., Guzman, M., & Smith, B. D. (1998). Some even more unpleasant monetarist arithmetic. Canadian Journal of Economics, 31(3), 596–623.
Buti, M., Larch, M., & Balboni, F. (2009). Monetary and Fiscal Policy Interactions in the EMU when Cyclical Conditions are Uncertain. Empirica, 36(1), 21-44. https://doi.org/10.1007/s10663-008-9090-3.
Buti, M., Larch, M., & Balboni, F. (2009). Monetary and fiscal policy interactions in the EMU when cyclical conditions are uncertain. Empirica, 36, 21–44: DOI 10.1007/s10663-008-9090-3.
Buti, M., Roeger,W., & Veld, J. (2001). Stabilizing output and inflation: policy conflict and cooperation under a stability pact. Journal of Common Market Studies, 39(5), 801-828.
Caramp, N., & Silva, D.H. (2023). Fiscal policy and the monetary transmission mechanism, Review of Economic Dynamics, 51, 716-746.
De Grauwe, P., & Foresti, P. (2023). Interactions of fiscal and monetary policies under waves of optimism and pessimism. Journal of Economic Behavior & Organization, 212, 466-481.
Demid, E. (2018). Fiscal and Monetary Policy: Coordination or Conflict?. InternationalEconomic Journal, 32(4), 547-571. https://doi.org/10.1080/10168737.2018.1534133.
Dixit A., & Lambertini, L. (2003). Symbiosis of monetary and fiscal policies in a monetary union. J Int Econ, 60,235–247.
Dixit, A., & Lambertini, L. (2003). Interactions of commitment and discretion in monetary and fiscal policies. American Economic Review, 93(5), 1522. doi:10.1257/000282803322655428.
Engwerda, J., Mahmoudini, D., & Dalali Isfahan, R. (2016).  Government and Central Bank Interaction under Uncertainty: A Differential Games Approach. Iranian Economic. Review, 20(2),225-259.
Friedman, J. W. (1992); The interaction between game theory and theoretical industrial economies, Scottish Journal of Political Econocy, 39(4), 353-73.
Hamdan, A., & Ali Hussein, S. (2020). Cooperative decision-making on fiscal and monetary policy in Iraq using the prisoner’s dilemma. Banks and Bank Systems, 15(4), 88-98. doi:10.21511/bbs.15(4).2020.08.
Kaminsky, G., Reinhart, C., & Vegh, C. A. (2004). When it rains, it pours: Procyclical capital flows and macroeconomic policies. NBER Macroeconomics Annual, 19, 16–41.
Kydland, F. E., & Prescott, E. C. (1977). Rules Rather Than Discretion: The Inconsistency of Optimal Plans. Journal of Political Economy, 85(3), 473-491.
Lambertini L., & Rovelli R. (2003) Monetary and Fiscal Policy Coordination and Macroeconomic Stabilization. A Theoretical Analysis.
https://ssrn.com/abstract= 380322 or http://dx.doi.org/10. 2139/ssrn.380322.
Lane, P. (2004). Monetary-fiscal interactions in an uncertain world: lessons for European policymakers. Institute for international integration studies. Dissertation, Trinity College Dublin.
Mahmoudinia, D. (2023). Introductory game theory (application in economics and other fields) first volume. Vali-e- Asr University of Rafsanjan. (In Persian).
Mahmoudinia, D., & Zeid Abadi, A. (2021). The Interaction of the Government and Central Bank Behavior in a Leader-Follower Game despite of the Risk Premium. Financial Economics, 15(54), 107-135. (In Persian).
Mahmoudinia, D., Bakhshi Dastjerdi, R., & Jafari, S. (2018). Extraction of Optimal Fiscal and Monetary Policy Rules in Framework of Game Theory: Application of Dynamic Stochastic General Equilibrium Model. Quarterly Journal of Applied Theories of Economics, 4(15), 143-174. (In Persian).
Mahmoudinia, D., Engwerda, J., Dallali Esfahani, R., Bakhshi Dastjerdi, R., & Fakhar, M. (2016). Strategic Interaction Between Government and Central Bank in Framework of Cooperative and Non-Cooperative Games.  Journal of Economic Modeling Research, 7(24), 83-121. (In Persian).
Mansourin, N., Mosavi jahromy, Y., Abolhasani, A., & Shayegani, B. (2017). Analyzing the Relationship among Government, Central Bank and Speculators in Iran: Approach of Game Theory and Nash Equilibrium. Journal of Economics and Modelling, 7(28), 139-167. (In Persian).
Nordhaus, W. D. (1994). Policy Games: Coordination and Independence in Monetary and Fiscal Policies. Brookings Papers on Economic Activity, 2, 139-215.
Rogoff, K. (1985). The Optimal Degree of Commitment to an Intermediate Monetary
Target, Quarterly Journal of Economics, 100(4), 1169-89
Sargent T., Wallace N. (1981). Some Unpleasant Monetarist Arithmetic, Federal Reserve Bank of Minneapolis Quarterly Review, 5, 1-17
Saulo, H., Rêgo, L. C., and Divino, J.A. (2013). Fiscal and monetary policy interactions: a game theory approach, Ann Oper Res, 206, 341–366.
Stawska, J., Malaczewski, M., & Szymańska, A. (2019). Combined monetary and fiscal policy: the Nash Equilibrium for the case of noncooperative game. Economic Research-Ekonomska Istraživanja, 32(1), 3554-3569, DOI:
10.1080/1331677X.2019.1669063.
Stawska, J., Malaczewski, M., Malaczewska, P., & Stawasz-Grabowska, E. (2021). The Nash equilibrium in the policy mix model for Czechia, Hungary, and Romania. Cogent Economics & Finance, 9(1), 1869380, DOI:
10.1080/23322039.2020.1869380.
Stawska, J., Malaczewski, M., Malaczewska, P., & Stawasz-Grabowska, E. (2023). The central bank or the government – who really dictates the terms of the policy-mix cooperation in economies with an independent monetary policy?, Economic Research-Ekonomska Istraživanja, 36(2), 2142258, DOI:
10.1080/1331677X.2022.2142258
Tavakolian, H., Taherpour, J., & Mohsenpour, F. (2019). Monetary and Fiscal Policy Interaction in Iran: A Dynamic Stochastic General Equilibrium Approach. Quarterly Journal of Economic Research and Policies, 27(90), 195-241. (In Persian).
Van Aarle, B., Bovenberg, L., & Raith, M. (1995). Monetary and fiscal policy interactions and debt stabilization. Journal of Economics, 62(2), 111–140. doi:10.1007/BF01226006
Woroniecka-Leciejewicz, I. (2010) Decision interactions of the monetary and fiscal authorities in the choice of policy mix, Journal of Organisational Transformation & Social Change, 7(2), 189-210.
Zarei, Z., & Hemmati, M. (2022). Investigating Fiscal and Monetary Policy Coordination in Iran's Economy: TVP-Reaction Function. The Journal of Planning and Budgeting,  27(1), 31-56. (In Persian).
 
 
Macroeconomics Research Letter
Volume 18, Issue 40
December 2023
Pages 7-39

Files

History

  • Receive Date: 05 February 2024
  • Revise Date: 18 February 2024
  • Accept Date: 19 February 2024

Share

How to cite

Statistics