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Savers, Spenders and Fiscal Policy in a Small Open Economy

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Author Info

  • Egil Matsen

    ()
    (Norwegian University of Science and Technology and Norges Bank)

  • Tommy Sveen

    ()
    (Norges Bank)

  • Ragnar Torvik

    ()
    (Norwegian University of Science and Technology and Norges Bank)

Abstract

This paper analyzes the effects of fiscal policy in an open economy. We extend the savers-spenders theory of Mankiw (2000) to a small open economy with endoge- nous labor supply. We first show how the Dornbusch (1983) consumption-based real interest rate for open economies is modified when labor supply is endogenous. We then turn to the effects of fiscal policy when there are both savers and spenders. With this heterogeneity taken into account, tax cuts have a short-run contractionary effect on domestic production, and increased public spending has a short-run expan- sionary effect. Although consistent with recent empirical work, this result contrasts with those of most other theoretical models. Transitory changes in demand have per- manent real effects in our model, and we discuss the implications for real exchange- rate dynamics. We also show how "rational" savers may magnify or dampen the responses of "irrational" spenders, and show how this is related to features of the utility functions.

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Bibliographic Info

Paper provided by Norges Bank in its series Working Paper with number 2004/18.

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Length: 28 pages
Date of creation: 29 Dec 2004
Date of revision:
Handle: RePEc:bno:worpap:2004_18

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Keywords: rule-of-thumb consumers; fiscal policy; open economy;

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References

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  1. Perotti, Roberto, 2002. "Estimating the effects of fiscal policy in OECD countries," Working Paper Series 0168, European Central Bank.
  2. Roberto Perotti, 2005. "Estimating the effects of fiscal policy in OECD countries," Proceedings, Federal Reserve Bank of San Francisco.
  3. Roberto Perotti, 2002. "Estimating the effects of fiscal policy in OECD countries," Economics Working Papers 015, European Network of Economic Policy Research Institutes.
  4. Amato, Jeffery D. & Laubach, Thomas, 2003. "Rule-of-thumb behaviour and monetary policy," European Economic Review, Elsevier, vol. 47(5), pages 791-831, October.
  5. Campbell, John Y & Mankiw, N Gregory, 1990. "Permanent Income, Current Income, and Consumption," Journal of Business & Economic Statistics, American Statistical Association, vol. 8(3), pages 265-79, July.
  6. J. Galí & D. López-Salido & J. Vallés, 2003. "Understanding the effects of government spending on consumption," Proceedings, Board of Governors of the Federal Reserve System (U.S.).
  7. Olivier Blanchard & Roberto Perotti, 2002. "An Empirical Characterization Of The Dynamic Effects Of Changes In Government Spending And Taxes On Output," The Quarterly Journal of Economics, MIT Press, vol. 117(4), pages 1329-1368, November.
  8. N. Gregory Mankiw, 2000. "The Savers-Spenders Theory of Fiscal Policy," NBER Working Papers 7571, National Bureau of Economic Research, Inc.
  9. Persson, Torsten, 1985. "Deficits and intergenerational welfare in open economies," Journal of International Economics, Elsevier, vol. 19(1-2), pages 67-84, August.
  10. John Y. Campbell & N. Gregory Mankiw, 1990. "Consumption, Income, and Interest Rates: Reinterpreting the Time Series Evidence," NBER Working Papers 2924, National Bureau of Economic Research, Inc.
  11. Edward N. Wolff, 1998. "Recent Trends in the Size Distribution of Household Wealth," Journal of Economic Perspectives, American Economic Association, vol. 12(3), pages 131-150, Summer.
  12. Dornbusch, Rudiger, 1983. "Real Interest Rates, Home Goods, and Optimal External Borrowing," Journal of Political Economy, University of Chicago Press, vol. 91(1), pages 141-53, February.
  13. Galí, Jordi & Lopez-Salido, Jose David & Vallés Liberal, Javier, 2004. "Rule-of-Thumb Consumers and the Design of Interest Rate Rules," CEPR Discussion Papers 4347, C.E.P.R. Discussion Papers.
  14. repec:fth:harver:1435 is not listed on IDEAS
  15. Jordi Galí & Tommaso Monacelli, 2004. "Monetary policy and exchange rate volatility in a small open economy," Economics Working Papers 835, Department of Economics and Business, Universitat Pompeu Fabra.
  16. Poterba, James M, 1988. "Are Consumers Forward Looking? Evidence from Fiscal Experiments," American Economic Review, American Economic Association, vol. 78(2), pages 413-18, May.
  17. Boskin, Michael J, 1988. "Consumption, Saving, and Fiscal Policy," American Economic Review, American Economic Association, vol. 78(2), pages 401-07, May.
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Cited by:
  1. Dirk Niepelt & Harris Dellas, 2013. "Credibility For Sale," 2013 Meeting Papers 12, Society for Economic Dynamics.
  2. Dirk Niepelt, 2008. "Debt Maturity without Commitment," Working Papers 08.05, Swiss National Bank, Study Center Gerzensee.
  3. Gábor P. Kiss, 2007. "One-off and off-budget items: An alternative approach," MNB Conference Volume, Magyar Nemzeti Bank (the central bank of Hungary), vol. 1(1), pages 18-27, December.
  4. Francoise Forges & Frederic Koessler, 2006. "Long Persuasion Games," THEMA Working Papers 2006-01, THEMA (THéorie Economique, Modélisation et Applications), Université de Cergy-Pontoise.
  5. Dirk Niepelt, 2009. "Sovereign Debt Maturity without Commitment," 2009 Meeting Papers 231, Society for Economic Dynamics.

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