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Fiscal Foresight, Forecast Revisions and the Effects of Government Spending in the Open Economy

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  • Luca Gambetti

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Abstract

This paper investigates the effects of government spending on the real exchange rate and the trade balance in the US using a new VAR identification procedure based on spending forecast revisions. I find that the real exchange rate appreciates and the trade balance deteriorates after a government spending shock, although the effects are quantitatively small. The findings broadly match the theoretical predictions of the standard Mundell-Fleming model and differ substantially from those existing in literature. Differences are attributable to the fact that, be- cause of fiscal foresight, the government spending is non-fundamental for the variables typically used in open economy VARs. Here, on the contrary, the estimated shock is fundamental.

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Bibliographic Info

Paper provided by Unitat de Fonaments de l'Anàlisi Econòmica (UAB) and Institut d'Anàlisi Econòmica (CSIC) in its series UFAE and IAE Working Papers with number 907.12.

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Length: 35
Date of creation: 22 Jun 2012
Date of revision:
Handle: RePEc:aub:autbar:907.12

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Keywords: VARs; fiscal policy; twin deficits; trade balance; Mundell-Fleming; forecast revisions; fiscal news; survey of professional forecasters.;

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References

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  1. Roberto perotti, 2011. "Expectations and Fiscal Policy: An Empirical Investigation," Working Papers 429, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
  2. Qiang Dai & Thomas Philippon, 2005. "Fiscal Policy and the Term Structure of Interest Rates," NBER Working Papers 11574, National Bureau of Economic Research, Inc.
  3. repec:sae:niesru:v:145:y::i:1:p:43-63 is not listed on IDEAS
  4. Enders, Zeno & Müller, Gernot J. & Scholl, Almuth, 2008. "How do fiscal and technology shocks affect real exchange rates? New evidence for the United States," CFS Working Paper Series 2008/22, Center for Financial Studies (CFS).
  5. Obstfeld, Maurice & Rogoff, Kenneth S., 1995. "Exchange Rate Dynamics Redux," Scholarly Articles 12491026, Harvard University Department of Economics.
  6. Kollmann, Robert, 1998. "US trade balance dynamics: the role of fiscal policy and productivity shocks and of financial market linkages," Journal of International Money and Finance, Elsevier, vol. 17(4), pages 637-669, August.
  7. Mario Forni & Luca Gambetti, 2011. "Sufficient information in structural VARs," Center for Economic Research (RECent) 062, University of Modena and Reggio E., Dept. of Economics.
  8. Agustín S. Bénétrix, 2009. "Fiscal Shocks and The Real Exchange Rate," 2009 Meeting Papers 1137, Society for Economic Dynamics.
  9. Elmendorf, D.W., 1993. "Actual Budget Deficit Expectations and Interest Rates," Harvard Institute of Economic Research Working Papers 1639, Harvard - Institute of Economic Research.
  10. Forni, Mario & Gambetti, Luca, 2010. "Fiscal Foresight and the Effects of Goverment Spending," CEPR Discussion Papers 7840, C.E.P.R. Discussion Papers.
  11. Corsetti, Giancarlo & Meier, André & Müller, Gernot, 2009. "Fiscal Stimulus with spending reversals," CEPR Discussion Papers 7302, C.E.P.R. Discussion Papers.
  12. Roel Beetsma & Massimo Giuliodori & Franc Klaassen, 2008. "The Effects of Public Spending Shocks on Trade Balances and Budget Deficits in the European Union," Journal of the European Economic Association, MIT Press, vol. 6(2-3), pages 414-423, 04-05.
  13. Karel Mertens & MortenO. Ravn, 2010. "Measuring the Impact of Fiscal Policy in the Face of Anticipation: A Structural VAR Approach," Economic Journal, Royal Economic Society, vol. 120(544), pages 393-413, 05.
  14. Baxter, Marianne, 1995. "International trade and business cycles," Handbook of International Economics, in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 35, pages 1801-1864 Elsevier.
  15. Morten O. Ravn & Stephanie Schmitt-Grohe & Martin Uribe, 2007. "Explaining the Effects of Government Spending Shocks on Consumption and the Real Exchange Rate," Economics Working Papers ECO2007/23, European University Institute.
  16. Baxter, M., 1994. "International Trade and Business Cycles," RCER Working Papers 390, University of Rochester - Center for Economic Research (RCER).
  17. Eric M. Leeper & Todd B. Walker & Shu-Chun Susan Yang, 2008. "Fiscal Foresight: Analytics and Econometrics," Caepr Working Papers 2008-013, Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington.
  18. Roel Beetsma & Massimo Giuliodori, 2011. "The Effects of Government Purchases Shocks: Review and Estimates for the EU," Economic Journal, Royal Economic Society, vol. 121(550), pages F4-F32, February.
  19. Plosser, Charles I., 1987. "Fiscal policy and the term structure," Journal of Monetary Economics, Elsevier, vol. 20(2), pages 343-367, September.
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Cited by:
  1. Giacomo de Giorgi & Luca Gambetti, 2012. "The Effects of Government Spending on the Distribution of Consumption," Working Papers 645, Barcelona Graduate School of Economics.

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