Financing COVID-19 Deficits in Fiscally Dominant Economies: Is The Monetarist Arithmetic Unpleasant?

The coronavirus pandemic of 2019-20 confronted fiscally dominant regimes around the world with the question of whether the large deficits caused by the health crisis should be monetized or financed by issuing debt The unpleasant monetarist arithmetic of Sargent and Wallace (1981) states that in a fiscally dominant regime tighter money now can cause higher inflation in the future In spite of the qualifier 'unpleasant,' this result is positive in nature, and, therefore, void of normative content I analyze conditions under which it is optimal in a welfare sense for the central bank to delay inflation by issuing debt to finance part of the fiscal deficit The analysis is conducted in the context of a model in which the aforementioned monetarist arithmetic holds, in the sense that if the government finds it optimal to delay inflation, it does so knowing that it would result in higher inflation in the future The central result of the paper is that delaying inflation is optimal when the fiscal deficit is expected to decline over time [ABSTRACT FROM AUTHOR] Copyright of East Asian Economic Review (EAER) is the property of Korea Institute for International Economic Policy and its content may not be copied or emailed to multiple sites or posted to a listserv without the copyright holder's express written permission However, users may print, download, or email articles for individual use This abstract may be abridged No warranty is given about the accuracy of the copy Users should refer to the original published version of the material for the full abstract (Copyright applies to all Abstracts )