The stimulus effects of expansionary fiscal policy under average inflation targeting (AIT) depends on both monetary and fiscal policy regimes. AIT features an inflation makeup under the monetary regime, but not under the fiscal regime. In normal times, AIT amplifies the short-run fiscal multipliers under both regimes while mitigating the cumulative multipliers. due to intertemporal substitution. In a zero-lower bound (ZLB) period, AIT reduces fiscal multipliers under a monetary regime by shortening the duration of the ZLB through expected inflation makeup. Under the fiscal regime, AIT has a nonlinear effect on fiscal multipliers because of the absence of inflation makeup and the presence of a nominal wealth effect.
About the Authors
Zheng Liu is a vice president and director of the Center for Pacific Basin Studies in the Economic Research Department of the Federal Reserve Bank of San Francisco. Learn more about Zheng Liu