The Fiscal Theory of the Price Level - by John H Cochrane (Hardcover)

About the Book

"Inflation, in which all prices and wages in an economy rise, is mysterious. If a war breaks out in the Middle East, and the price of oil goes up, the mechanism is no great mystery-supply and demand often work pretty visibly. But if you ask the grocer why the price of bread is higher, he or she will blame the wholesaler, who will blame the baker, who will blame the wheat supplier, and so on. Perhaps the ultimate cause is a government printing more money, but there is really no way to know this for certain but to sit down in an office with statistics, armed with some decent economic theory. But current economic theory doesn't really explain why we haven't seen inflation for so long, and more and more economists think that current theory doesn't hold together, or provide much guidance for how central banks should behave if inflation does break out. Many also worry that central banks have much less power over the economy than they think they do, and much less understanding of the mechanism behind what power they do have. The Fiscal Theory of the Price Level is a comprehensive new approach to monetary policy. Economist John Cochrane argues that money has value because the government accepts it for tax payments. This insight, he argues, leads to a deep re-reading of monetary policy and institutions. Inflation comes when a government is unable to repay its debts, rather than from mismanagement of the split of debt between money and bonds. In the book, he will analyze institutional design, historical episodes, and compare fiscal theory to the Keynesian and new-Keynesian theory based on interest rate targets, and to monetarism. The book offers an overview and introduction to the range of contemporary monetary economics and history of thought as well as the fiscal theory"--

Book Synopsis

A comprehensive account of how government deficits and debt drive inflation

Where do inflation and deflation ultimately come from? The fiscal theory of the price level offers a simple answer: Prices adjust so that the real value of government debt equals the present value of taxes less spending. Inflation breaks out when people don't expect the government to fully repay its debts. The fiscal theory is well suited to today's economy: Financial innovation undermines money demand, and central banks don't control the money supply or aggressively change interest rates, invalidating classic theories, while large debts and deficits threaten inflation and constrain monetary policy. This book presents a comprehensive account of this important theory from one of its leading developers and advocates.

John Cochrane aims to make fiscal theory useful as a conceptual framework and modeling tool, and for analyzing history and policy. He merges fiscal theory with standard models in which central banks set interest rates, giving a novel account of monetary policy. He generalizes the theory to explain data and make realistic predictions. For example, inflation decreases in recessions despite deficits because discount rates fall, raising the value of debt; specifying that governments promise to partially repay debt avoids classic puzzles and allows the theory to apply at all times, not just during periods of high inflation. Cochrane offers an extensive rethinking of monetary doctrines and institutions through the eyes of fiscal theory, and analyzes the era of zero interest rates and post-pandemic inflation.

Filled with research by Cochrane and others, The Fiscal Theory of the Price Level offers important new insights about fiscal and monetary policy.

Review Quotes

"The Fiscal Theory of the Price Level is a captivating read that prompts a deeper reflection on the influence of fiscal policy. . . . His thorough analysis of fiscal theory alongside monetarism and new Keynesianism provides an exciting collection of insights that traces the history of inflation to emerging fiscal research."---Nicole Heroux, Monthly Labor Review

"[The Fiscal Theory of the Price Level] provides an elegant theoretical framework for both explaining the experiences of the 2010s and why the change in policy regime in the 2020s has led to high inflation and interest rates--and what will be required to return inflation to 'normal.'"---Melissa Davies, Society of Professional Economists

"Provocative . . . and well timed for an age of big deficits and high inflation."-- "The Economist"

"The culmination of years of careful research. . . . [The Fiscal Theory of the Price Level] is not just about predicting the behaviour of the price level, but rather opens a whole new dimension for studying the political and redistributive implications of fiscal policy as expressed through the channel of monetary policy and inflation."---Michael Ben-Gad, Economic Affairs

"Having given the magic money tree a good shake, governments are now grappling with inflation and swollen debts. A more sombre age calls for a more serious approach to economics. John Cochrane's fiscal theory fits the bill."---Edward Chancellor, Reuters

About the Author

John H. Cochrane is the Rose-Marie and Jack Anderson Senior Fellow at the Hoover Institution at Stanford University. He was previously a professor of finance at the University of Chicago Booth School of Business. His previous books include Asset Pricing (Princeton).