Working Paper: CEPR ID: DP7509
Authors: Troy Davig; Eric M. Leeper
Abstract: Increases in government spending trigger substitution effects - both inter- and intra-temporal - and a wealth effect. The ultimate impacts on the economy hinge on current and expected monetary and fiscal policy behavior. Studies that impose active monetary policy and passive fiscal policy typically find that government consumption crowds out private consumption: higher future taxes create a strong negative wealth effect, while the active monetary response increases the real interest rate. This paper estimates Markov-switching policy rules for the United States and finds that monetary and fiscal policies fluctuate between active and passive behavior. When the estimated joint policy process is imposed on a conventional new Keynesian model, government spending generates positive consumption multipliers in some policy regimes and in simulated data in which all policy regimes are realized. The paper reports the model?s predictions of the macroeconomic impacts of the American Recovery and Reinvestment Act?s implied path for government spending under alternative monetary-fiscal policy combinations.
Keywords: Fiscal Stimulus; Multipliers; Zero Interest Rate Bound
JEL Codes: E52; E62; E63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| government spending (H59) | consumption (E21) |
| government spending (H59) | economic output (E23) |
| active monetary policy + passive fiscal policy (E63) | private consumption (D19) |
| active monetary policy + passive fiscal policy (E63) | real interest rates (E43) |
| real interest rates (E43) | consumption (E21) |
| passive monetary policy + active fiscal policy (E63) | economic output (E23) |
| passive monetary policy + active fiscal policy (E63) | consumption (E21) |
| government spending multipliers (E62) | output (C67) |
| government spending multipliers (E62) | consumption (E21) |
| joint behavior of monetary and fiscal policies (E63) | effectiveness of fiscal stimulus (E62) |