By Pedro Gomis-Porqueras, Benoît, Julien and Chengsi Wang
In this paper we study the optimal monetary and ﬁscal policies of a general equilibrium model of unemployment and money with search frictions both in labor and goods markets as in Berentsen, Menzio and Wright (2010). We abstract from revenue-raising motives to focus on the welfare-enhancing properties of optimal policies. We show that some of the inefﬁciencies in the Berentsen, Menzio and Wright (2010) framework can be restored with appropriate ﬁscal policies. In particular, when lump sum monetary transfers are possible, a production subsidy ﬁnanced by money printing can increase output in the decentralized market and a vacancy subsidy ﬁnanced by a dividend tax even when the Hosios’ rule does not hold.
Money search is making great strides in becoming a useful tool for policy since the Lagos-Wright model came out. The recent BMW paper started with embedding a labor search market with a money search market, and this paper builds and expands on this by looking very closely at optimal policies and finds in particular that active monetary monetary policy can even have positive long-run effects. Imagine that: money is not neutral in the long run in a neo-classical model!