Deficits and Inflation: HANK meets FTPL

George-Marios Angeletos, Chen Lian and Christian Wolf

No 33102, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: In HANK models, fiscal deficits drive aggregate demand and thus inflation because households are non-Ricardian; in the Fiscal Theory of the Price Level (FTPL), they instead do so via equilibrium selection. Because of this difference, the mapping from deficits to inflation in HANK is robust to active monetary policy and free of the controversies surrounding the FTPL. Despite this difference, a benchmark HANK model with sufficiently slow fiscal adjustment predicts just as much inflation as the FTPL. This is true even in the simplest FTPL scenario, in which deficits are financed entirely by inflation and debt erosion. In practice, however, unfunded deficits are likely to trigger a persistent boom in real economic activity and thus the tax base, substituting for debt erosion. In our quantitative explorations, this reduces the inflationary effects of unfunded deficits by about half relative to that simple FTPL arithmetic.

JEL-codes: E3 E6 (search for similar items in EconPapers)
Date: 2024-11
New Economics Papers: this item is included in nep-ban, nep-cba and nep-mon
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