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Fiscal activism and the cost of debt financing

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  • Hans DEWACHTER
  • Priscilla TOFFANO

Abstract

In this paper, we estimate the impact of changes in fiscal policy regime on the yield curve. In particular, we differentiate between yield curve responses under active and passive fiscal policy regimes (according to the terminology of Leeper 1991). Analyzing US data in the period 1965-2010, we find a statistically significant impact of fiscal policy only for the active policy regime. A one-percentage-point shock in the primary deficit leads typically to a contemporaneous increase in long-term yields of about 10 basis points, and even stronger cumulative effects. No significant impact of deficits on yields is found in the passive fiscal policy regime.

Suggested Citation

  • Hans DEWACHTER & Priscilla TOFFANO, 2010. "Fiscal activism and the cost of debt financing," Working Papers of Department of Economics, Leuven ces10.13, KU Leuven, Faculty of Economics and Business (FEB), Department of Economics, Leuven.
    • Handle: RePEc:ete:ceswps:ces10.13
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    Cited by:

    1. António Afonso & Priscilla Toffano, 2013. "Fiscal regimes in the EU," Working Papers Department of Economics 2013/10, ISEG - Lisbon School of Economics and Management, Department of Economics, Universidade de Lisboa.

    More about this item

    Keywords

    Fiscal activism; Markov switching and yield curve;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory

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