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Anticipated Fiscal Policy Changes and Goods Market Adjustments

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  • Stefan F. Schubert
  • Stephen J. Turnovsky

Abstract

Government policies are frequently known to be temporary and thus their termination is perfectly anticipated. These foreseen policy changes must be consistent with equilibrium in both the goods market and asset markets. Potential problems arise because prices often play dual roles, both as final goods prices, and as asset prices, as components of rates of return. We show how the economy accommodates an anticipated policy change depends upon its production flexibility and its structure. With flexible investment, an anticipated reduction in government expenditure is fully accommodated by capital accumulation. When investment involves adjustment costs, the marginal utility of wealth and the price of capital both jump so as to maintain equality among rates of return. Goods market clearance is maintained by a combination of increases in consumption and investment. Extensions of the model to include inventories and to a small open economy are also considered and contrasted. Copyright Verein für Socialpolitik and Blackwell Publishing Ltd. 2006.

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Bibliographic Info

Article provided by Verein für Socialpolitik in its journal German Economic Review.

Volume (Year): 7 (2006)
Issue (Month): (05)
Pages: 135-161

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Handle: RePEc:bla:germec:v:7:y:2006:i::p:135-161

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  1. Fisher, W.H. & Turnovsky, S.J., 1991. "Fiscal Policy and the term Structure of Interest Rates: An Intertemporal Optimizing Analysis," Discussion Papers in Economics at the University of Washington 91-20, Department of Economics at the University of Washington.
  2. Karayalcin, Cem, 1999. "Temporary and permanent government spending in a small open economy," Journal of Monetary Economics, Elsevier, vol. 43(1), pages 125-141, February.
  3. Fisher, Walter H., 1995. "An optimizing analysis of the effects of world interest disturbances on the open economy term structure of interest rates," Journal of International Money and Finance, Elsevier, vol. 14(1), pages 105-126, February.
  4. repec:fip:fedcpd:y:2002:i:jan:p:1-9:n:3 is not listed on IDEAS
  5. Klundert, T.C.M.J. van de & Smulders, J.A., 1999. "Catching-up and regulation in a two-sector small open economy," Open Access publications from Tilburg University urn:nbn:nl:ui:12-80214, Tilburg University.
  6. Stephen J. Turnovsky, 1997. "International Macroeconomic Dynamics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262201119, January.
  7. Turnovsky, Stephen J. & Fisher, Walter H., 1995. "The composition of government expenditure and its consequences for macroeconomic performance," Journal of Economic Dynamics and Control, Elsevier, vol. 19(4), pages 747-786, May.
  8. Schubert, Stefan F & Turnovsky, Stephen J, 2002. "The Dynamics of Temporary Policies in a Small Open Economy," Review of International Economics, Wiley Blackwell, vol. 10(4), pages 604-22, November.
  9. Jack, William & Viard, Alan D., 1996. "Production efficiency and the design of temporary investment incentives," Journal of Public Economics, Elsevier, vol. 61(1), pages 87-106, July.
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Cited by:
  1. Winkler, Roland C. & Wohltmann, Hans-Werner, 2006. "Anticipated Raw Materials Price Shocks and Monetary Policy Response - A New Keynesian Approach," Economics Working Papers 2006,19, Christian-Albrechts-University of Kiel, Department of Economics.

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