Monetary/fiscal policy mix and inflation dynamics

Francesco Bianchi, Leonardo Melosi and Anna Rogantini-Picco

Chapter 6 in Research Handbook on Inflation, 2025, pp 125-139 from Edward Elgar Publishing

Abstract: This chapter reviews the recent developments of the literature on monetary/fiscal policy interaction, the Fiscal Theory of Price Level (FTPL), and the implications for inflation dynamics. There are already excellent reviews of the FTPL, such as Leeper and Leith's (2016) handbook chapter and Cochrane (2023). For this reason, we mostly focus on recent contributions, with a special attention to empirical studies. The absence of deflation in the aftermath of the 2008/9 financial crisis despite the many years spent at the zero lower bound and the post-COVID surge in inflation have sparked a renewed interest in the FTPL. We focus on contributions that are geared to understand inflation as a fiscal phenomenon in advanced economies. There is of course a vast and established literature that uses related, but distinct ideas to understand inflation in emerging economies. Such literature has been recently surveyed in Kehoe and Nicolini (2022). We start with a brief review of the theoretical contributions that provide the foundations of subsequent empirical work. We then move on to describe the evolution of the empirical approach to the FTPL, with special emphasis on recent advancements based on integrating the FTPL into models with nominal rigidities. Finally, we review related contributions that are not formally based on the FTPL, but that are still relevant to understand the importance of modeling the link between monetary and fiscal policies.

Keywords: Fiscal policy; Inflation; Fiscal theory of the price level (search for similar items in EconPapers)
Date: 2025
ISBN: 9781035327751
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