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Fiscal Policy, Monopolistic Competition, and Finite Lives

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  • Ben J. Heijdra
  • Jenny Ligthart

Abstract

The paper studies the short-run, transitional, and long-run output effects of permanent and temporary shocks in public consumption under various financing methods. To this end, a dynamic macroeconomic model for a closed economy is developed, which features a perfectly competitive final goods sector and a monopolistically competitive intermediate goods sector. Finitely lived households consume final goods, supply labor, and save part of their income. Amongst the findings for a permanent rise in public consumption are: (i) monopolistic competition increases the absolute value of the balanced-budget output multiplier; (ii) positive long-run output multipliers are obtained only if the generational turnover effect is dominated by the intertemporal labor supply effect; (iii) short-run out- put multipliers under lump-sum tax financing are smaller than long-run output multipliers if labor supply is elastic; and (iv) bond financing reduces the size of long-run output multipliers as compared to lump-sum tax financing and may give rise to non-monotonic adjustment paths if labor supply is sufficiently elastic and the speed of adjustment of lump-sum taxes is not too high. Temporary bond-financed fiscal shocks are shown to yield: (i) permanent effects on output; and (ii) negative long-run output multipliers.

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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 1661.

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Date of creation: 2006
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Handle: RePEc:ces:ceswps:_1661

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Keywords: fiscal policy; output multipliers; Yaari-Blanchard model; overlapping generations; monopolistic competition; love of variety; temporary fiscal shocks;

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Cited by:
  1. Francoise Forges & Frédéric Koessler, 2006. "Long Persuasion Games," CESifo Working Paper Series 1669, CESifo Group Munich.
  2. Olivier Cardi & Romain Restout, 2007. "Permanent vs Temporary Fiscal Expansion in a Two-Sector Small Open Economy Model," Post-Print halshs-00174574, HAL.
  3. Ligthart, J.E. & Meijden, G.C. van der, 2010. "Coordinated Tax-Tariff Reforms, Informality, and Welfare Distribution," Discussion Paper 2010-61, Tilburg University, Center for Economic Research.

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