IMF Working Papers

Deflation and Public Finances: Evidence from the Historical Records

Author/Editor:

Nicolas End ; Sampawende J Tapsoba ; G. Terrier ; Renaud Duplay

Publication Date:

July 28, 2015

Electronic Access:

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Summary:

This paper examines the impact of deflation on fiscal aggregates. With deflation relatively rare in modern history, it relies mostly on the historical records, using a dataset panel covering 150 years and 21 advanced economies. Empirical evidence shows that deflation affects public finances mostly through increases in public debt ratios, reflecting a worsening in interest rate–growth differentials. On average, a mild rate of deflation increases public debt ratios by almost 2 percent of GDP a year, this impact being larger during recessionary deflations. Using a simulation model that accounts for composition effects and price expectations, we also find that, for European countries, a 2 percentage point deflationary shock in both 2015 and 2016 would lead to a deterioration in the primary balance of as much as 1 percent of GDP by 2019.

Series:

Working Paper No. 2015/176

Subject:

Deflation Economic growth Economic recession Fiscal policy Fiscal stance Inflation Prices Public debt