Working Paper: CEPR ID: DP8986
Authors: Benjamin Born; Falko Juessen; Gernot J. Müller
Abstract: Does the fiscal multiplier depend on the exchange rate regime and, if so, how strongly? To address this question, we first estimate a panel vector autoregression (VAR) model on time-series data for OECD countries. We identify the effects of unanticipated government spending shocks in countries with fixed and floating exchange rates, while controlling for anticipated changes in government spending. In a second step, we interpret the evidence through the lens of a New Keynesian small open economy model. Three results stand out. First, while government spending multipliers are larger under fixed exchange rate regimes, the difference relative to floating exchangerates is smaller than what traditional Mundell-Fleming analysis suggests. Second, there islittle evidence for the specific transmission channel which is at the heart of the Mundell-Flemingmodel. Third, the New Keynesian model provides a satisfactory account of the evidence.
Keywords: exchange rate regime; fiscal multiplier; fiscal policy; monetary policy; New Keynesian model; panel VAR
JEL Codes: E62; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Fiscal policy effects on economic activity (E62) | Predictions from the Mundell-Fleming model (F47) |
| Exchange rates and net exports dynamics (F31) | Fiscal transmission mechanism in the Mundell-Fleming model (F42) |
| Fiscal multiplier under fixed exchange rates (E62) | Fiscal multiplier under floating exchange rates (E62) |
| Unanticipated government spending shocks (E62) | Fiscal multiplier (E62) |
| Differences in monetary policy stance across exchange rate regimes (E63) | Differences in the fiscal multiplier (E62) |