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Deficits and Inflation: HANK meets FTPL

Author

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  • George-Marios Angeletos
  • Chen Lian
  • Christian K. Wolf

Abstract

In the Fiscal Theory of the Price Level (FTPL), households are Ricardian, so fiscal deficits drive output and inflation only under hard-to-test assumptions about which policy authority is “active” or “dominant.” In the Heterogeneous Agent New Keynesian (HANK) paradigm, households are instead non-Ricardian, so deficits drive aggregate demand, and thereby also inflation, through classical wealth or liquidity effects. Because of this difference, HANK is free of FTPL’s fragilities and controversies. Despite this difference, HANK actually reproduces FTPL’s core empirical predictions regarding the relation between deficits and inflation. This is true even for the most extreme FTPL scenario, where unfunded deficits are financed entirely by inflation-induced debt erosion. In practice, however, deficit-financed fiscal stimuli can help expand output and thus tax revenue, substituting for debt erosion and moderating the associated inflationary pressures.

Suggested Citation

  • George-Marios Angeletos & Chen Lian & Christian K. Wolf, 2024. "Deficits and Inflation: HANK meets FTPL," NBER Working Papers 33102, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:33102
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    Citations

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    Cited by:

    1. Jonathon Hazell & Stephan Hobler, 2024. "Do Deficits Cause Inflation? A High Frequency Narrative Approach," Discussion Papers 2439, Centre for Macroeconomics (CFM).
    2. Bartal, Mehdi & Becard, Yvan, 2024. "Consumption tax cuts vs stimulus payments," Journal of Public Economics, Elsevier, vol. 239(C).
    3. Yingwei Dong & Tirupam Goel & Emanuel Kohlscheen & Philip Wooldridge, 2025. "Keeping the momentum: how finance can continue to support growth in EMEs," BIS Papers chapters, in: Bank for International Settlements (ed.), How can central banks take account of differences across households and firms for monetary policy?, volume 127, pages 1-32, Bank for International Settlements.
    4. Vasileios Karaferis, 2025. "Inequality, Labour Market Dynamics and the Policy Mix: Insights from a FLANK," Edinburgh School of Economics Discussion Paper Series 319, Edinburgh School of Economics, University of Edinburgh.
    5. Kwicklis, Noah, 2025. "Active vs. passive policy and the trade-off between output and inflation in HANK," Journal of Monetary Economics, Elsevier, vol. 151(C).

    More about this item

    JEL classification:

    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E6 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook

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