Fiscal expansion and household expectations

Beyond directly boosting demand through transfers or tax cuts, expansionary fiscal policies can also shape households’ expectations about inflation, future taxes, and overall economic conditions. These expectations can play a critical role in driving consumption and supporting economic activity. Understanding how households react to the announcement of a fiscal expansion is therefore crucial for assessing the overall effectiveness of fiscal policy. Yet, empirical evidence remains scarce and is largely limited to periods of economic distress, such as pandemic-related relief measures (e.g., Coibion et al., 2021; Georgarakos & Kenny, 2022).
The effect of announcing a debt-financed fiscal expansion on households' expectations and willingness to consume is unclear ex ante. If households expect demand to increase and the economy to grow in response to the stimulus, it may raise inflation expectations and encourage short-term spending. At the same time, it could signal economic weakness and raise concerns about future tax increases, which might reduce households’ readiness to consume. With this project, we aim to investigate which of these mechanisms dominate when shaping expectations and consumption in response to fiscal expansion. Importantly, recent empirical evidence suggests that limited understanding of the economic mechanisms associated with fiscal expansion may impede households in adjusting their expectations (De Fiore et al., 2024). Therefore, we will investigate whether providing a simple explanation of both the potential growth benefits and future fiscal risks associated with debt-financed fiscal expansion changes households' responses. Our study will offer new insights into how fiscal policy announcements affect household expectations and consumption.