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Household Beliefs about Fiscal Dominance

Author

Listed:
  • Philippe Andrade
  • Erwan Gautier
  • Eric Mengus

    (HEC Paris - Ecole des Hautes Etudes Commerciales)

  • Emanuel Moench
  • Tobias Schmidt

Abstract

We study beliefs about fiscal dominance in a survey of German households. We first use a randomized controlled trial to identify how fiscal news impact individual debt-to-GDP and inflation expectations. We document that the link between debt and inflation crucially depends on individuals' views about the fiscal space. News leading individuals to expect higher debt-to-GDP ratios make them more likely to revise upward their inflation expectations. These average effects are due to individuals who think that fiscal resources are more stretched than others. In contrast, individuals who think there is fiscal space do not associate debt with inflation. We then rationalize these results in a New Keynesian model where agents have heterogeneous beliefs about the fiscal space. We show that the heterogeneity of beliefs implies a policy tradeoff for the central bank. Agents who expect fiscal dominance in the future exert upward pressure on inflation. An active central bank may choose to partially tolerate this higher inflation due to the real costs of completely stabilizing prices.

Suggested Citation

  • Philippe Andrade & Erwan Gautier & Eric Mengus & Emanuel Moench & Tobias Schmidt, 2025. "Household Beliefs about Fiscal Dominance," Working Papers hal-05107655, HAL.
    • Handle: RePEc:hal:wpaper:hal-05107655
    DOI: 10.2139/ssrn.5097443
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    2. repec:ecb:ecbdps:202426 is not listed on IDEAS
    3. Brandao-Marques, Luis & Casiraghi, Marco & Gelos, Gaston & Harrison, Olamide & Kamber, Gunes, 2024. "Is high debt Constraining monetary policy? evidence from inflation expectations," Journal of International Money and Finance, Elsevier, vol. 149(C).

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    Keywords

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    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory

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