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How large are the effects of tax changes?

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  • Carlo Favero
  • Francesco Giavazzi

Abstract

We use the time series of shifts in U.S. taxes constructed by Romer and Romer to estimate tax multipliers. Differently from the single-equation approach adopted by Romer and Romer, our estimation strategy (a Var that includes output, government spending and revenues, inflation and the nominal interest rate) does not rely upon the assumption that tax shocks are orthogonal to each other as well as to lagged values of other macro variables. Our estimated multiplier is much smaller: one, rather than three at a three-year horizon. When we split the sample in two sub-samples (before and after 1980) we find, before 1980, a multiplier whose size is never greater than one, after 1980 a multiplier not significantly different from zero. Following the findings in Bohn (1998), we also experiment with a model that includes debt and the non-linear government budget constraint. We find that, while in general not very important, the non-linearity that arises from the budget constraint makes a difference after 1980, when the response offiscal variables to the level of the debt becomes stronger.

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Bibliographic Info

Paper provided by IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University in its series Working Papers with number 350.

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Date of creation: 2009
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Handle: RePEc:igi:igierp:350

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  1. Eric M. Leeper & Todd B. Walker & Shu-Chun Susan Yang, 2008. "Fiscal Foresight: Analytics and Econometrics," NBER Working Papers 14028, National Bureau of Economic Research, Inc.
  2. Mertens, Karel & Ravn, Morten O., 2008. "The Aggregate Effects of Anticipated and Unanticipated U.S. Tax Policy Shocks: Theory and Empirical Evidence," CEPR Discussion Papers 6673, C.E.P.R. Discussion Papers.
  3. Craig Burnside & Martin Eichenbaum & Jonas Fisher, 2003. "Fiscal Shocks and Their Consequences," NBER Working Papers 9772, National Bureau of Economic Research, Inc.
  4. Lippi, Marco & Reichlin, Lucrezia, 1994. "VAR analysis, nonfundamental representations, blaschke matrices," Journal of Econometrics, Elsevier, vol. 63(1), pages 307-325, July.
  5. Bagliano, Fabio C. & Favero, Carlo A., 1999. "Information from financial markets and VAR measures of monetary policy," European Economic Review, Elsevier, vol. 43(4-6), pages 825-837, April.
  6. Andrew Mountford & Harald Uhlig, 2005. "What are the Effects of Fiscal Policy Shocks?," SFB 649 Discussion Papers SFB649DP2005-039, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.
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Cited by:
  1. Hebous, Shafik, 2009. "The Effects of Discretionary Fiscal Policy on Macroeconomic Aggregates: A Reappraisal," MPRA Paper 23300, University Library of Munich, Germany, revised Jun 2010.
  2. Buiter, Willem H., 2009. "The Limits to Fiscal Stimulus," CEPR Discussion Papers 7607, C.E.P.R. Discussion Papers.
  3. Alan J. Auerbach & William G. Gale & Benjamin H. Harris, 2010. "Activist Fiscal Policy," Journal of Economic Perspectives, American Economic Association, vol. 24(4), pages 141-64, Fall.
  4. Fuad Hasanov & Reda Cherif, 2012. "Public Debt Dynamics," IMF Working Papers 12/230, International Monetary Fund.
  5. Bernd Hayo & Matthias Uhl, 2011. "The Effects of Legislated Tax Changes in Germany," MAGKS Papers on Economics 201142, Philipps-Universit├Ąt Marburg, Faculty of Business Administration and Economics, Department of Economics (Volkswirtschaftliche Abteilung).
  6. Alan J. Auerbach & William G. Gale, 2009. "Activist Fiscal Policy to Stabilize Economic Activity," NBER Working Papers 15407, National Bureau of Economic Research, Inc.
  7. Andrew Bossie, 2013. "The Effect of Fiscal Policy Shocks on the Flow of Funds," 2013 Papers pbo741, Job Market Papers.
  8. Baum, Anja & Koester, Gerrit B., 2011. "The impact of fiscal policy on economic activity over the business cycle - evidence from a threshold VAR analysis," Discussion Paper Series 1: Economic Studies 2011,03, Deutsche Bundesbank, Research Centre.
  9. Luc Eyraud & Anke Weber, 2013. "The Challenge of Debt Reduction during Fiscal Consolidation," IMF Working Papers 13/67, International Monetary Fund.
  10. Reda, Cherif & Fuad, Hasanov, 2010. "Public Debt Dynamics and Debt Feedback," MPRA Paper 27918, University Library of Munich, Germany.

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