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Achieving two policy targets with one policy instrument: heterogeneous expectations, countercyclical fiscal policy, and macroeconomic stabilization at the effective lower bound

Author

Listed:
  • Gilberto Tadeu Lima

    (University of São Paulo)

  • Mark Setterfield

    (New School for Social Research)

  • Jaylson Jair Silveira

    (Federal University of Santa Catarina)

Abstract

We explore the short-term macrodynamics of stabilization policy at the effective lower bound (ELB) of the nominal interest rate, in an environment characterized by heterogenous and endogenously time-varying private-sector output and inflation expectations driven by evolutionary dynamics. We show that at the ELB, fiscal policy conducted in accordance with a well-specified policy rule is particularly effective for purposes of macroeconomic stabilization. This is because fiscal interventions have both a direct effect on output and inflation (via aggregate demand formation) and an indirect effect on these same target variables, via the management of heterogenous and evolving expectations. As a result of the two channels through which it operates, and seemingly despite the logic of the Tinbergen (targets-instruments) principle, fiscal policy is thus revealed as a single policy instrument capable of achieving two policy goals.

Suggested Citation

  • Gilberto Tadeu Lima & Mark Setterfield & Jaylson Jair Silveira, 2025. "Achieving two policy targets with one policy instrument: heterogeneous expectations, countercyclical fiscal policy, and macroeconomic stabilization at the effective lower bound," Review of Evolutionary Political Economy, Springer, vol. 6(1), pages 135-155, April.
    • Handle: RePEc:spr:revepe:v:6:y:2025:i:1:d:10.1007_s43253-024-00143-z
    DOI: 10.1007/s43253-024-00143-z
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