Public debt and the strategic interaction of monetary and fiscal policies
In the last chapter we looked at the response of the BCEAO to changes in government borrowing. We saw that borrowing by one government affects money creation on the account of another. Moreover, regardless of the account to which the money creation is allocated, the free movement of money within the UEMOA means that money creation on any account will affect inflation in all members. So there is a freeriding problem: in the absence of strictly binding limits on public borrowing there is the potential for excessive borrowing on the part of each individual government. Although (as we saw in Chapter 2) CFA membership engenders greater monetary prudence on average than one can expect from countries with their own currency and central bank, the free-riding problem represents a potential inefficiency. Moreover, if some governments create more public debt than others then there is an implicit resource transfer between members of the UEMOA. In this chapter we will investigate the problem further, with particular reference to public borrowing within the BCEAO area.1 The following section draws out some stylised facts about the nature of the problem. A key feature is that different countries have behaved in very different ways. We then present a simple model to explain why the observed behaviour is the likely outcome of the union's institutions, and discuss the lessons that can be drawn for the future.