Working Paper: NBER ID: w15021
Authors: Roger E. A. Farmer
Abstract: This paper uses a model with a continuum of equilibrium steady state unemployment rates to explore the effectiveness of fiscal policy. The existence of multiple steady state equilibria is explained by the presence of search and recruiting costs. I use the model to explain the current financial crisis as a shift to a high unemployment equilibrium, induced by the self-fulfilling beliefs of market participants about asset prices. I ask two questions. 1) Can fiscal policy help us out of the crisis? 2) Is there an alternative to fiscal policy that is less costly and more effective? The answer to both questions is yes.
Keywords: No keywords provided
JEL Codes: E2; E24
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Fiscal policy (E62) | Unemployment (J64) |
| Government spending (H59) | Employment levels (J23) |
| Shift in market beliefs (G40) | Transition from low to high unemployment equilibrium (J64) |
| Balanced budget fiscal expansion (E62) | Full employment (J23) |
| Fiscal measures (E62) | Increase in taxes (H29) |
| Increase in taxes (H29) | Negate welfare benefits of restored employment (I38) |