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The Effects of Inflation on Public Finances

Author

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  • Mr. Daniel Garcia-Macia

Abstract

Does inflation help improve public finances? This paper documents the dynamic responses of fiscal variables to an inflation shock, using both quarterly and annual panel data for a broad set of economies. Inflation shocks are estimated to improve fiscal balances temporarily, as nominal revenues track inflation closely, while nominal primary expenditures take longer to catch up. Inflation spikes also lead to a persistent reduction in debt to GDP ratios, both due to the primary balance improvement and the nominal GDP denominator channel. However, debt only falls with inflation surprises—rises in inflation expectations do not improve debt dynamics, suggesting limits to debt debasement strategies. The results are robust to using various inflation measures and instrumental variables.

Suggested Citation

  • Mr. Daniel Garcia-Macia, 2023. "The Effects of Inflation on Public Finances," IMF Working Papers 2023/093, International Monetary Fund.
    • Handle: RePEc:imf:imfwpa:2023/093
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    Citations

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    Cited by:

    1. Vybhavi Balasundharam & Arika Kayastha & Mr. Marcos Poplawski Ribeiro, 2023. "Inflation Indexation in Public Finances: A Global Dataset on Current Practices," IMF Working Papers 2023/264, International Monetary Fund.
    2. Karsten Staehr & Oļegs Tkačevs & Katri Urke, 2024. "Fiscal performance under inflation and inflation surprises: evidence from fiscal reaction functions for the euro area," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 160(4), pages 1477-1504, November.
    3. António Afonso & José Alves & Sofia Monteiro, 2024. "The pressure is on: how geopolitical tensions impact institutional fiscal and external stability responses," Working Papers REM 2024/0318, ISEG - Lisbon School of Economics and Management, REM, Universidade de Lisboa.
    4. Jessen, Robin & Schmidt, Torsten & Christofzik, Désirée I. & Isaak, Niklas & Kirsch, Florian, 2023. "Inflation und kommunale Schuldentragfähigkeit. Projektbericht im Auftrag des Ministerium für Heimat, Kommunales, Bau und Digitalisierung des Landes Nordrhein-Westfalen," RWI Projektberichte, RWI - Leibniz-Institut für Wirtschaftsforschung, number 281078.
    5. Ricardo Ferraz & Joaquim Miranda Sarmento & António Portugal Duarte, 2024. "The Sustainability of Portuguese Fiscal Policy in Democracy, 1974–2020," Journal of Quantitative Economics, Springer;The Indian Econometric Society (TIES), vol. 22(3), pages 749-772, September.

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