NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Monetary-Fiscal Policy Interactions and the Price Level: Background and Beyond

Eric M. Leeper, Tack Yun

NBER Working Paper No. 11646
Issued in October 2005
NBER Program(s):   EFG

The paper presents the fiscal theory of the price level in a variety of models, including endowment economies with lump-sum taxes and production economies with proportional income taxes. We offer a microeconomic perspective on the fiscal theory by computing a Slutsky-Hicks decomposition of the effects of tax changes into substitution, wealth, and revaluation effects. Revaluation effects arise whenever tax changes alter the value of outstanding nominal government liabilities by changing the price level. Under certain assumptions on monetary and fiscal behavior, the revaluation effect reflects the fiscal theory mechanism. When taxes distort, two Laffer curves arise, implying that a tax increase can lower or raise the price level and the revaluation effect can be positive or negative, depending on which side of a particular Laffer curve the economy resides.

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Document Object Identifier (DOI): 10.3386/w11646

Published: Eric Leeper & Tack Yun, 2006. "Monetary-fiscal policy interactions and the price level:Background and beyond," International Tax and Public Finance, Springer, vol. 13(4), pages 373-409, August. citation courtesy of

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