Can Fiscal Consolidation Announcements Help Anchor Inflation Expectations?

By Antonio David, Samuel Pienknagura, Juan Yepez

March 15, 2024

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Antonio David, Samuel Pienknagura, and Juan Yepez. Can Fiscal Consolidation Announcements Help Anchor Inflation Expectations?, (USA: International Monetary Fund, 2024) accessed December 21, 2024

Disclaimer: IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.

Summary

In this paper, we use quarterly data and a novel database on fiscal policy consolidation announcements, for a sample of advanced economies and emerging markets to quantify the effects of fiscal tightening on inflation expectations. We find that fiscal consolidation announcements reduce inflation expectations over the medium-term (three and five-years ahead), but not in the short-term (one-year ahead). There is also some evidence that consolidation announcements reduce “disagreement” about expected future inflation at longer horizons. The inflation anchoring role of consolidation announcements is enhanced by the strength of a country’s fiscal and monetary frameworks, and when fiscal and monetary policy work in tandem. In addition, we find that initial conditions matter—inflation expectation’s response to consolidation announcements is larger in periods of high contemporaneous inflation. With these results in hand, we show that the effectiveness of fiscal consolidation in controlling realized inflation depends greatly on the response of inflation expectations to consolidation announcements. These results show that fiscal policy is crucial to anchor inflation expectations and a key element of a credible disinflationary process.

Subject: Emerging and frontier financial markets, Financial markets, Fiscal consolidation, Fiscal policy, Fiscal stance, Inflation, Inflation targeting, Monetary policy, Prices

Keywords: Contemporaneous inflation, Emerging and frontier financial markets, Expectations to consolidation announcement, Fiscal consolidation, Fiscal consolidation announcement, Fiscal Consolidations, Fiscal Policy, Fiscal stance, Global, Inflation, Inflation expectation, Inflation Expectations, Inflation targeting, Narrative Approach, Response to consolidation announcement, Western Hemisphere

Publication Details

Pages:

39
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2024/060
Stock No:

WPIEA2024060
ISBN:

9798400268267
ISSN:

1018-5941

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