Investigating fiscal and monetary policy coordination in Iranian economy: TVP-Reaction Function

This study answers the question of whether monetary and fiscal policies are consistent in reaction to the demand pressure and inflationary conditions. In order to answer this question, in this study, the coordination between monetary and fiscal policies was examined in the period 1988: 1 to 2021:4, based on Demid’s approach (2018) and using model with time varying parameters (TVP). Following the study of  Kuttner (2016) in the framework of game theory, Nash equilibrium, scenarios for the interaction of these two policies were extracted in the policy matrix. The results confirm that the first quarter of 1992 to the second quarter of 1992 (two seasons) and also the second quarter of 2011 to the third quarter of 2011 (two seasons) were the only periods in which monetary and fiscal policymakers simultaneously and consistently tried to reduce the inflation gap. Also, in the first three seasons of 2006 and the second quarter of 2008 to the end of 2009 (7 seasons), the monetary and fiscal authorities reacted positively to the negative output gap simultaneously and had a counter-cyclical reaction to reduce the output gap in a coordinated manner. Based on these results and in the framework of the policy matrix, the Central Bank of Iran has been submissive to fiscal policies for most of the years. Therefore, it is suggested that in order to strengthen coordination between fiscal and monetary policymakers, the establishment of some institutional arrangements and legal frameworks should be on the agenda, including the implementation of both fiscal rules and inflation targeting and setting a legal framework for strengthening the central bank independence