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Dynamics Of Fiscal Financing In The United States

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  • ERIC M. LEEPER, MICHAEL PLANTE, NORA TRAUM

    (Indiana University Bloomington, Indiana University and Ball State University, Indiana University Office)

Abstract

Dynamic stochastic general equilibrium models that include policy rules for government spending, lump-sum transfers, and distortionary taxation on labor and capital income and on consumption expenditures are fit to U.S. data under a variety of specifica- tions of fiscal policy rules. We obtain several results. First, the best fitting model allows a rich set of fiscal instruments to respond to stabilize debt. Second, responses of aggregate variables to fiscal policy shocks under rich fiscal rules can vary considerably from responses that allow only non-distortionary fiscal instruments to finance debt. Third, based on esti- mated policy rules, transfers, capital tax rates, and government spending have historically responded strongly to government debt, while labor taxes have responded more weakly. Fourth, all components of the intertemporal condition linking debt to expected discounted surpluses—transfers, spending, tax revenues, and discount factors—display instances where their expected movements are important in establishing equilibrium. Fifth, debt-financed fiscal shocks trigger long lasting dynamics so that short-run multipliers can differ markedly from long-run multipliers, even in their signs.

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Paper provided by Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington in its series Caepr Working Papers with number 2009-012.

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Length: 47 pages
Date of creation: Jul 2009
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Handle: RePEc:inu:caeprp:2009-012

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