Fiscal policy in Europe: The credibility implications of real wage rigidity

This paper presents a a simple model that complements the standard result that nominal rigidity generates lack of credibility for monetary policy . Here credibility problems arise for fiscal policy in the presence of real rigidities: these cause the policy not to counteract deflationary real shocks, as it would had the government been able to pre-commit itself. It is the lack of credibility when information is complete, not the attempt to establish a reputation, when information is incomplete, that is here responsible for a sub-optimal policy response.