Fiscal-Monetary-Financial Stability Interactions in a Data-Rich Environment

Issue: 2/2018

Lukáš Pfeifer

University of Economics in Prague, Department of Monetary Theory and Policy, 1938/4 W. Churchill Sq., 130 67 Prague 3, Czech Republic, e-mail: l.pfeifer@seznam.cz

Martin Hodula

VŠB-Technical University of Ostrava, Economic Faculty, Department of Economics, Sokolská třída 33, 701 21 Ostrava, Czech Republic, e-mail: martin.hodula@vsb.cz

In this paper, we shed some light on the mutual interplay of economic policy and the financial stability objective. We contribute to the intense discussion regarding the influence of fiscal and monetary policy measures on the real economy and the finan-cial sector. We apply a factor-augmented vector autoregression model to Czech macroeconomic data and model the policy interactions in a data-rich environment. Our findings can be summarized in three main points: First, loose economic policies (especially monetary policy) may translate into a more stable financial sector, albeit only in the short term. In the medium term, an expansion-focused mix of monetary and fiscal policy may contribute to systemic risk accumulation, by substantially increasing credit dynamics and house prices. Second, we find that fiscal and monetary policy impact the financial sector in differential magnitudes and time horizons. And third, we confirm that systemic risk materialization might cause significant output losses and deterioration of public finances, trigger deflationary pressures, and increase the debt service ratio. Overall, our findings provide some empirical support for countercyclical fiscal and monetary policies.

Pages: 
195-224
DOI: 10.2478/revecp-2018-0012
JEL: G28, E61, E44
Keywords: policy mix, monetary policy, macroprudential policy, Interactions, Fiscal Policy, financial stability
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