FTPL across Government Tiers in Fiscal Federalism

After the tax-sharing reform, is FTPL valid in Chinese-style fiscal federalism? We address this question theoretically. We use a general equilibrium model to construct a framework of FTPL in Chinese-style fiscal federalism, where local governments balance their budgets through transfer payments from the central government, and the central government has the right to issue government bond to finance deficit This paper shows that the decrease of local or central government fiscal surplus would raise the equilibrium price level However, both the centralization of fiscal revenue and complementary fiscal policy among local governments will lessen the effect of local government deficit on inflation.