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Fiscal policy in good and bad times

  • Candelon, Bertrand
  • Lieb, Lenard

In this paper we analyze whether the effect of fiscal policy differs across the business cycle. To tackle this question, we use a regime-switching error-correction framework, where nonlinearities are only modeled in the short-run and have no impact on the long-run equilibrium. Regime specific shocks to government revenue and government purchases are identified using sign restrictions. Linear combinations of the impulse responses of these basic shocks are used to construct a deficit-spending shock and a deficit-financed tax-cut shock. We find that active spending policies have a stronger impact in recession, with multipliers exceeding unity, and should be preferred to deficit-financed tax-cuts.

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Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 37 (2013)
Issue (Month): 12 ()
Pages: 2679-2694

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Handle: RePEc:eee:dyncon:v:37:y:2013:i:12:p:2679-2694
DOI: 10.1016/j.jedc.2013.09.001
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