Deficits and Inflation: HANK meets FTPL
In the Fiscal Theory of the Price Level (FTPL), households are Ricardian, so fiscal deficits drive output and inflation only when the fiscal authority is “active” or “dominant.” In the Heterogeneous Agent New Keynesian (HANK) paradigm, households are instead non-Ricardian, so deficits invariably drive aggregate demand, and thereby also inflation, now through classical wealth or liquidity effects. Because of this difference, HANK is free of the FTPL’s fragilities and controversies. Despite this difference, HANK actually reproduces the FTPL’s quantitative predictions regarding the relation between deficits and inflation, provided that two testable conditions are met: that marginal propensities to consume are high, consistent with microeconomic evidence; and that deficits are not accompanied by interest rate or tax hikes in the near term, as was the case post-2021.
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Copy CitationGeorge-Marios Angeletos, Chen Lian, and Christian K. Wolf, "Deficits and Inflation: HANK meets FTPL," NBER Working Paper 33102 (2024), https://doi.org/10.3386/w33102.Download Citation
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