Coordination of Monetary and Fiscal Policies from a Game Theoretic Perspective

Abstract

Under the backdrop of a highly intricate international environment and sluggish recovery of the global economy, it is crucial to delve into methods for bolstering national economic prowess and promoting economic prosperity and stability. Monetary policy and fiscal policy, as two primary macro-control tools, play a pivotal role in national progress, with their effective coordination becoming a significant issue. Game theory, a tool to mathematically model decisions made by different individuals through logical analysis, provides a solid theoretical foundation and practical framework for studying the issue. This paper utilizes game theory to model the coordination among the two policy-makers, the central banks and the governments while establishing a payoff matrix that reflects their utilities. During normal or recovery periods, this paper views it as a cooperative game, and the cooperative equilibrium will be that both policy-makers choose expansionary policies. During financial crisis, this paper views it as a non-cooperative game, and the Nash equilibrium will be that both policy-makers choose contractionary policies. Additionally, this paper selects specific examples from Brazilian history to validate the rationality of the model while confirming that the short-term equilibrium aligns with the modeling conclusions.