In this paper the interaction between the Treasury and the central bank is examined in the case of both cooperative and non-cooperative behaviour. Differential games are used in the framework of a continuous-time econometric model of the Italian economy. The Nash and the Stackelberg noncooperative equilibrium solutions are computed, and the case for cooperation is analysed by considering the Nash and the Kalai-Smorodinsky bargaining models. It is shown that, in the Italian case, the government has a stronger bargaining position than the central bank. A comparison is then made between the different solutions to show that the drawbacks that emerge from non-cooperation are not simply those depending on the players' payoffs. Other features are in fact considered which constitute a further argument for policy co-ordination. 'See Balducci (1985), Neck (1985) and Dockner and Neck (1986). See also Currie and Levine (1985) and Miller and Salmon (1985) for applications of differential games to a problem of international policy coordination.
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