Discussion paper
DP19791 Fiscal Backing, Inflation and US Business Cycles
We study the business cycle implications of a monetary/fiscal policy regime with partial fiscal backing. Fiscal policy only partially serves debt by running future surpluses and monetary policy accommodates the inflationary consequences. The estimated model for the US economy suggests that 80 percent of the fiscal implications of business cycle shocks are backed. The drivers of inflation are mostly of a monetary nature, but there are episodes like the 1970s and the post-pandemic period when fiscal-led inflation is highly relevant. Partial fiscal backing affects the inflationary and output consequences of fiscal and supply shocks, but less so of demand shocks.
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