Fiscal policy and inflation in the Euro Area

We investigate the relationship between fiscal policy and inflation dynamics in the Euro Area, with a focus on the post-pandemic inflation surge. Using a BVAR identified via sign restrictions, we disentangle the effects of various demand- and supply-side shocks, including fiscal policy, on inflation. First, while both positive demand and adverse supply shocks contributed to the inflation surge, demand shocks were relatively more important. Second, fiscal stimulus played a substantial and progressively increasing role, particularly in influencing domestic-based measures of inflation. Finally, the relative impact of fiscal shocks on inflation dynamics varies across (selected) Euro Area countries.