IDEAS home Printed from https://ideas.repec.org/p/pra/mprapa/116250.html
   My bibliography  Save this paper

The Fiscal Transmission Mechanism of Inflation

Author

Listed:
  • Gmeiner, Robert
  • Larson, Sven

Abstract

The link between money creation and inflation has been theoretically demonstrated, but different inflation responses to Federal Reserve activity after the Great Recession and COVID recession showed the incomplete nature of the theory. We model a ``fiscal transmission mechanism'' whereby Federal Reserve purchases of Treasury securities lead to inflation as new dollars flow through fiscal deficits into the economy. In our model, other Federal Reserve activity generally lacks inflationary effects. Using a nonstructural vector autoregression approach, we test for the presence of this mechanism and offer near perfect predictions of the 2022 inflation rate using a time series extending back half a century. We explain the fiscal transmission mechanism and the reasons why other Federal Reserve activity lacks the same effects, and we propose an emphasis on controlling the money supply by limiting Federal Reserve purchases of Treasury securities as a better way to control inflation than setting an interest rate target.

Suggested Citation

  • Gmeiner, Robert & Larson, Sven, 2023. "The Fiscal Transmission Mechanism of Inflation," MPRA Paper 116250, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:116250
    as

    Download full text from publisher

    File URL: https://mpra.ub.uni-muenchen.de/116250/1/MPRA_paper_116250.pdf
    File Function: original version
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Ben S. Bernanke & Mark Gertler, 1995. "Inside the Black Box: The Credit Channel of Monetary Policy Transmission," Journal of Economic Perspectives, American Economic Association, vol. 9(4), pages 27-48, Fall.
    2. Douglas W. Diamond & Philip H. Dybvig, 2000. "Bank runs, deposit insurance, and liquidity," Quarterly Review, Federal Reserve Bank of Minneapolis, vol. 24(Win), pages 14-23.
    3. Alesina, Alberto & Summers, Lawrence H, 1993. "Central Bank Independence and Macroeconomic Performance: Some Comparative Evidence," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 25(2), pages 151-162, May.
    4. Arthur F. Burns, 1969. "The Business Cycle in a Changing World," NBER Books, National Bureau of Economic Research, Inc, number burn69-1.
    5. Bernanke, Ben S, 1983. "Nonmonetary Effects of the Financial Crisis in Propagation of the Great Depression," American Economic Review, American Economic Association, vol. 73(3), pages 257-276, June.
    6. Paul De Grauwe & Magdalena Polan, 2005. "Is Inflation Always and Everywhere a Monetary Phenomenon?," Scandinavian Journal of Economics, Wiley Blackwell, vol. 107(2), pages 239-259, June.
    7. Michael D. Bordo & Mickey D. Levy, 2021. "Do enlarged fiscal deficits cause inflation? The historical record," Economic Affairs, Wiley Blackwell, vol. 41(1), pages 59-83, February.
    8. Helge Berger & Jakob De Haan & Sylvester C.W. Eijffinger, 2001. "Central Bank Independence: An Update of Theory and Evidence," Journal of Economic Surveys, Wiley Blackwell, vol. 15(1), pages 3-40, February.
    9. John B. Taylor, 1995. "The Monetary Transmission Mechanism: An Empirical Framework," Journal of Economic Perspectives, American Economic Association, vol. 9(4), pages 11-26, Fall.
    10. Laidler, David, 1978. "Money and money income: An essay on the `transmission mechanism'," Journal of Monetary Economics, Elsevier, vol. 4(2), pages 151-191, April.
    11. Allan H. Meltzer, 1995. "Monetary, Credit and (Other) Transmission Processes: A Monetarist Perspective," Journal of Economic Perspectives, American Economic Association, vol. 9(4), pages 49-72, Fall.
    12. Kydland, Finn E & Prescott, Edward C, 1982. "Time to Build and Aggregate Fluctuations," Econometrica, Econometric Society, vol. 50(6), pages 1345-1370, November.
    13. Helen Fessenden, 2016. "1965: The Year the Fed and LBJ Clashed," Econ Focus, Federal Reserve Bank of Richmond, issue 3Q/4Q, pages 4-7.
    14. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-491, June.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Akhand Akhtar Hossain, 2009. "Central Banking and Monetary Policy in the Asia-Pacific," Books, Edward Elgar Publishing, number 12777.
    2. J.M. Berk, 1998. "Monetary transmission: what do we know and how can we use it?," BNL Quarterly Review, Banca Nazionale del Lavoro, vol. 51(205), pages 145-170.
    3. J.M. Berk, 1998. "Monetary transmission: what do we know and how can we use it?," Banca Nazionale del Lavoro Quarterly Review, Banca Nazionale del Lavoro, vol. 51(205), pages 145-170.
    4. Berk, Jan Marc, 2001. "New economy, old central banks? Monetary transmission in a new economic environment," Serie Research Memoranda 0032, VU University Amsterdam, Faculty of Economics, Business Administration and Econometrics.
    5. James L Butkiewicz & Zeliha Ozdogan, 2014. "Financial crisis, monetary policy reform and the monetary transmission mechanism in Turkey," Middle East Development Journal, Taylor & Francis Journals, vol. 6(1), pages 66-83, January.
    6. Stijn Claessens & M Ayhan Kose, 2018. "Frontiers of macrofinancial linkages," BIS Papers, Bank for International Settlements, number 95.
    7. Amine Ben Amar, 2022. "On the role of Islamic banks in the monetary policy transmission in Saudi Arabia," Eurasian Economic Review, Springer;Eurasia Business and Economics Society, vol. 12(1), pages 55-94, March.
    8. Jan Marc Berk, 2002. "Banca centrale e innovazione finanziaria. Una rassegna della letteratura recente," Moneta e Credito, Economia civile, vol. 55(220), pages 345-385.
    9. Frederic S. Mishkin, 1996. "The Channels of Monetary Transmission: Lessons for Monetary Policy," NBER Working Papers 5464, National Bureau of Economic Research, Inc.
    10. Simone Auer & Nicola Branzoli & Giuseppe Ferrero & Antonio Ilari & Francesco Palazzo & Edoardo Rainone, 2024. "CBDC and the banking system," Questioni di Economia e Finanza (Occasional Papers) 829, Bank of Italy, Economic Research and International Relations Area.
    11. Norrbin, Stefan, 2001. "What Have We Learned from Empirical Tests of the Monetary Transmission Effect," Working Paper Series 121, Sveriges Riksbank (Central Bank of Sweden).
    12. Iris Claus & Christie Smith, 1999. "Financial intermediation and the monetary transmission mechanism," Reserve Bank of New Zealand Bulletin, Reserve Bank of New Zealand, vol. 62, December.
    13. Donato Masciandaro & Davide Romelli, 2019. "Behavioral Monetary Policymaking: Economics, Political Economy and Psychology," World Scientific Book Chapters, in: Behavioral Finance The Coming of Age, chapter 9, pages 285-329, World Scientific Publishing Co. Pte. Ltd..
    14. Jan Marc Berk, 2002. "Central banking and financial innovation. A survey of the modern literature," BNL Quarterly Review, Banca Nazionale del Lavoro, vol. 55(222), pages 263-297.
    15. Joon-Ho Hahm & Frederic S. Mishkin, 2000. "Causes of the Korean Financial Crisis: Lessons for Policy," NBER Working Papers 7483, National Bureau of Economic Research, Inc.
    16. Philipp F. M. Baumann & Enzo Rossi & Alexander Volkmann, 2020. "What Drives Inflation and How: Evidence from Additive Mixed Models Selected by cAIC," Papers 2006.06274, arXiv.org, revised Aug 2022.
    17. Ali Choudhary & Amjad Ali & Shah Hussain & Vasco J. Gabriel, 2012. "Bank Lending and Monetary Shocks: Evidence from a Developing Economy," SBP Working Paper Series 45, State Bank of Pakistan, Research Department.
    18. Jan Marc Berk, 2002. "Central banking and financial innovation. A survey of the modern literature," Banca Nazionale del Lavoro Quarterly Review, Banca Nazionale del Lavoro, vol. 55(222), pages 263-297.
    19. repec:dau:papers:123456789/1483 is not listed on IDEAS
    20. MARTÍNEZ-RUIZ, Elena & NOGUES-MARCO, Pilar, 2018. "The Political Economy of Exchange Rate Stability During the Gold Standard. Spain 1874—1914," Discussion paper series HIAS-E-75, Hitotsubashi Institute for Advanced Study, Hitotsubashi University.
    21. Bordo, Michael D., 1986. "Explorations in monetary history: A survey of the literature," Explorations in Economic History, Elsevier, vol. 23(4), pages 339-415, October.

    More about this item

    Keywords

    inflation; transmission mechanism; monetary policy; fiscal policy; budget deficits;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:pra:mprapa:116250. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Joachim Winter (email available below). General contact details of provider: https://edirc.repec.org/data/vfmunde.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.