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Explaining the Effects of Government Spending Shocks

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  • Zubairy, Sarah

Abstract

The objective of this paper is to identify and explain effects of a government spending shock. After accounting for large military events, I find that in response to a structural unanticipated government spending shock, output, hours, consumption and wages all rise, whereas investment falls on impact. I construct and estimate a dynamic general equilibrium model featuring deep habit formation and show that it successfully explains these effects. In particular, deep habits give rise to countercyclical markups and thus act as transmission mechanism for the effects of government spending shocks on private consumption and wages. In addition, I show that deep habits significantly improve the fit of the model compared to a model with habit formation at the level of aggregate goods.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 26051.

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Date of creation: 24 May 2010
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Handle: RePEc:pra:mprapa:26051

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Keywords: deep habits; fiscal shocks; government spending; countercyclical markups;

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References

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  1. Lawrence J. Christiano & Martin Eichenbaum & Charles L. Evans, 2001. "Nominal rigidities and the dynamic effects of a shock to monetary policy," Working Paper Series, Federal Reserve Bank of Chicago WP-01-08, Federal Reserve Bank of Chicago.
  2. Baxter, Marianne & King, Robert G, 1993. "Fiscal Policy in General Equilibrium," American Economic Review, American Economic Association, American Economic Association, vol. 83(3), pages 315-34, June.
  3. Morten Ravn & Stephanie Schmitt-Grohe & Martin Uribe, 2004. "Deep Habits," NBER Working Papers 10261, National Bureau of Economic Research, Inc.
  4. Hafedh Bouakez & Nooman Rebei, 2003. "Why Does Private Consumption Rise After a Government Spending Shock?," Working Papers, Bank of Canada 03-43, Bank of Canada.
  5. Florin O. Bilbiie, 2009. "Nonseparable Preferences, Fiscal Policy Puzzles, and Inferior Goods," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 41(2-3), pages 443-450, 03.
  6. Chernozhukov, Victor & Hong, Han, 2003. "An MCMC approach to classical estimation," Journal of Econometrics, Elsevier, Elsevier, vol. 115(2), pages 293-346, August.
  7. Craig Burnside & Martin Eichenbaum & Jonas Fisher, 2003. "Fiscal Shocks and Their Consequences," NBER Working Papers 9772, National Bureau of Economic Research, Inc.
  8. Morten O. Ravn & Stephanie Schmitt-Grohé & Martín Uribe, 2007. "Explaining the Effects of Government Spending Shocks on Consumption and the Real Exchange Rate," NBER Working Papers 13328, National Bureau of Economic Research, Inc.
  9. 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, MIT Press, vol. 117(4), pages 1329-1368, November.
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Cited by:
  1. Cloyne, James S, 2011. "Government spending shocks, wealth effects and distortionary taxes," MPRA Paper 41689, University Library of Munich, Germany.
  2. Anderson, Emily & Inoue, Atsushi & Rossi, Barbara, 2013. "Heterogeneous Consumers and Fiscal Policy Shocks," CEPR Discussion Papers, C.E.P.R. Discussion Papers 9631, C.E.P.R. Discussion Papers.
  3. Hashmat Khan & Abeer Reza, 2013. "House Prices, Consumption, and Government Spending Shocks," Carleton Economic Papers, Carleton University, Department of Economics 13-10, Carleton University, Department of Economics.
  4. Yi, Fujin & Lin, C.-Y. Cynthia & Thome, Karen, 2013. "An Analysis of the Effects of Government Subsidies and the Renewable Fuels Standard on the Fuel Ethanol Industry: A Structural Econometric Model," 2013 Annual Meeting, August 4-6, 2013, Washington, D.C., Agricultural and Applied Economics Association 150224, Agricultural and Applied Economics Association.
  5. Zubairy, Sarah, 2010. "Deep Habits, Nominal Rigidities and Interest Rate Rules," MPRA Paper 26053, University Library of Munich, Germany.

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