Working Paper: CEPR ID: DP9948
Authors: Nadav Ben Zeev; Evi Pappa
Abstract: We identify US defense news shocks as shocks that best explain future movements in defense spending over a five-year horizon and are orthogonal to current defense spending. Our identified shocks are strongly correlated with the Ramey (2011) news shocks, but explain a larger share of macroeconomic fluctuations and have significant demand effects. Fiscal news induces significant and persistent increases in output, consumption, investment, hours and the interest rate. Standard DSGE models fail to produce such a pattern. We propose a sticky price model with distortionary taxation, variable capital utilization, capital adjustment costs and rule-of-thumb consumers that replicates the empirical findings.
Keywords: Defense Spending; News; DSGE Model; Maximum Forecast Error Variance; SVAR
JEL Codes: E62; E65; H30
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| defense news shock (H56) | output (C67) |
| defense news shock (H56) | consumption (E21) |
| defense news shock (H56) | investment (G31) |
| defense news shock (H56) | hours worked (J22) |
| defense news shock (H56) | interest rate (E43) |
| defense news shock (H56) | variability in real variables (C29) |