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The Effects of Public Spending Externalities

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  • Valerio Ercolani
  • João Valle e Azevedo

Abstract

We take to the data an RBC model with two salient features. First, we allow government consumption to directly affect the marginal utility of consumption. Second, we allow public capital to affect the productivity of private factors. On the one hand, private and government consumption are estimated to be substitute goods. As a consequence, the estimated response of private consumption to a government consumption shock is negative, as in models with separable government consumption, but such response is much stronger. Further, substitutability makes labor supply to react less, so the estimated output multiplier is lower than in models with separabilities, peaking - on impact - at 0.39. On the other hand, non-defense public investment enhances mildly or negligibly, depending on the specification, the productivity of private factors. In those specifications where non-defense public investment is found to be productive, a non-defense investment shock generates the following estimated responses (after several quarters): a positive reaction for private consumption, Tobin’s q, private investment and real wages. Unlike models with unproductive government investment, the estimated output multiplier builds up over time, starting well below one on impact, then reaching 0.93 after three years and 1.44 after six.

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Bibliographic Info

Paper provided by Banco de Portugal, Economics and Research Department in its series Working Papers with number w201210.

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Date of creation: 2012
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Handle: RePEc:ptu:wpaper:w201210

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  1. Eric M. Leeper, Michael Plante, Nora Traum, 2009. "Dynamics Of Fiscal Financing In The United States," Caepr Working Papers, Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington 2009-012, Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington.
  2. Eric M. Leeper & Todd B. Walker & Shu-Chun Susan Yang, 2009. "Government Investment and Fiscal Stimulus in the Short and Long Runs," NBER Working Papers 15153, National Bureau of Economic Research, Inc.
  3. Fiorito, Riccardo & Kollintzas, Tryphon, 2002. "Public Goods, Merit Goods, and the Relation Between Private and Government Consumption," CEPR Discussion Papers 3617, C.E.P.R. Discussion Papers.
  4. Leeper, Eric M. & Walker, Todd B. & Yang, Shu-Chun S., 2010. "Government investment and fiscal stimulus," Journal of Monetary Economics, Elsevier, Elsevier, vol. 57(8), pages 1000-1012, November.
  5. Robert A. Amano & Tony Wirjanto, 1997. "Government Expenditures and the Permanent-Income Model," Working Papers 98002, University of Waterloo, Department of Economics, revised Nov 1997.
  6. John A. Tatom, 1991. "Public capital and private sector performance," Review, Federal Reserve Bank of St. Louis, issue May, pages 3-15.
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Cited by:
  1. Valerio Ercolani & João Valle e Azevedo, 2013. "The Output Effects of (Non-Separable) Government Consumption at the Zero Lower Bound," Working Papers, Banco de Portugal, Economics and Research Department w201310, Banco de Portugal, Economics and Research Department.
  2. João Valle e Azevedo & Valerio Ercolani, 2012. "An evaluation of government expenditures’ externalities," Economic Bulletin and Financial Stability Report Articles, Banco de Portugal, Economics and Research Department.

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