Monetary Policy, Fiscal Policy, and Confidence

Abstract

The relative effectiveness of monetary and fiscal policies is an on-going debate among macroeconomists. Our study is the first to examine the effect of monetary and fiscal policies on confidence. We provide a theoretical framework which highlights the role of confidence in business cycles as well as the effect of monetary and fiscal policies on confidence. Moreover, we discuss how monetary and fiscal policies restore confidence, which helps to lead to economic recovery from recessions/slowdowns. Furthermore, we test the effect of monetary and fiscal policies on confidence as well as on the real GDP. Our results suggest that monetary and fiscal policies have a stable, long-run (as well as short-run) relationship with confidence and real GDP. Moreover, real GDP and confidence move together in both the long-run as well as in the short-run.