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Fiscal Foresight, Forecast Revisions and the Effects of Government Spending in the Open Economy

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  • Luca Gambetti

Abstract

This paper investigates the effects of government spending on the real exchange rate and the trade balance in the US using a new VAR identification procedure based on spending forecast revisions. I find that the real exchange rate appreciates and the trade balance deteriorates after a government spending shock, although the effects are quantitatively small. The findings broadly match the theoretical predictions of the standard Mundell-Fleming model and differ substantially from those existing in literature. Differences are attributable to the fact that, because of fiscal foresight, the government spending is non-fundamental for the variables typically used in open economy VARs. Here, on the contrary, the estimated shock is fundamental.

Suggested Citation

  • Luca Gambetti, 2012. "Fiscal Foresight, Forecast Revisions and the Effects of Government Spending in the Open Economy," Working Papers 644, Barcelona Graduate School of Economics.
  • Handle: RePEc:bge:wpaper:644
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    References listed on IDEAS

    as
    1. Giancarlo Corsetti & André Meier & Gernot J. Müller, 2012. "Fiscal Stimulus with Spending Reversals," The Review of Economics and Statistics, MIT Press, vol. 94(4), pages 878-895, November.
    2. Obstfeld, Maurice & Rogoff, Kenneth, 1995. "Exchange Rate Dynamics Redux," Journal of Political Economy, University of Chicago Press, vol. 103(3), pages 624-660, June.
    3. Roberto perotti, 2011. "Expectations and Fiscal Policy: An Empirical Investigation," Working Papers 429, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
    4. Enders, Zeno & Müller, Gernot J. & Scholl, Almuth, 2011. "How do fiscal and technology shocks affect real exchange rates?: New evidence for the United States," Journal of International Economics, Elsevier, vol. 83(1), pages 53-69, January.
    5. Elmendorf, D.W., 1993. "Actual Budget Deficit Expectations and Interest Rates," Harvard Institute of Economic Research Working Papers 1639, Harvard - Institute of Economic Research.
    6. Karel Mertens & MortenO. Ravn, 2010. "Measuring the Impact of Fiscal Policy in the Face of Anticipation: A Structural VAR Approach," Economic Journal, Royal Economic Society, vol. 120(544), pages 393-413, May.
    7. A. S. Benetrix & P. R. Lane, 2013. "Fiscal Shocks and the Real Exchange Rate," International Journal of Central Banking, International Journal of Central Banking, vol. 9(3), pages 6-37, September.
    8. Kollmann, Robert, 1998. "US trade balance dynamics: the role of fiscal policy and productivity shocks and of financial market linkages," Journal of International Money and Finance, Elsevier, vol. 17(4), pages 637-669, August.
    9. Baxter, Marianne, 1995. "International trade and business cycles," Handbook of International Economics,in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 35, pages 1801-1864 Elsevier.
    10. Mario Forni & Luca Gambetti, 2010. "Fiscal Foresight and the Effects of Government Spending," UFAE and IAE Working Papers 851.10, Unitat de Fonaments de l'Anàlisi Econòmica (UAB) and Institut d'Anàlisi Econòmica (CSIC).
    11. Eric M. Leeper & Todd B. Walker & Shu-Chun Susan Yang, 2008. "Fiscal Foresight: Analytics and Econometrics," Caepr Working Papers 2008-013, Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington.
    12. Qiang Dai & Thomas Philippon, 2005. "Fiscal Policy and the Term Structure of Interest Rates," NBER Working Papers 11574, National Bureau of Economic Research, Inc.
    13. Forni, Mario & Gambetti, Luca, 2014. "Sufficient information in structural VARs," Journal of Monetary Economics, Elsevier, vol. 66(C), pages 124-136.
    14. 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.
    15. Roel Beetsma & Massimo Giuliodori & Franc Klaassen, 2008. "The Effects of Public Spending Shocks on Trade Balances and Budget Deficits in the European Union," Journal of the European Economic Association, MIT Press, vol. 6(2-3), pages 414-423, 04-05.
    16. Roel Beetsma & Massimo Giuliodori, 2011. "The Effects of Government Purchases Shocks: Review and Estimates for the EU," Economic Journal, Royal Economic Society, vol. 121(550), pages 4-32, February.
    17. Plosser, Charles I., 1987. "Fiscal policy and the term structure," Journal of Monetary Economics, Elsevier, vol. 20(2), pages 343-367, September.
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    Cited by:

    1. Forni, Mario & Gambetti, Luca, 2016. "Government spending shocks in open economy VARs," Journal of International Economics, Elsevier, vol. 99(C), pages 68-84.
    2. Puonti, Päivi, 2016. "Fiscal multipliers in a structural VEC model with mixed normal errors," Journal of Macroeconomics, Elsevier, vol. 48(C), pages 144-154.
    3. Giacomo De Giorgi & Luca Gambetti, 2012. "The Effects of Government Spending on the Distribution of Consumption," Working Papers 645, Barcelona Graduate School of Economics.
    4. Paolo Bianchi & Bruno Deschamps & Khurshid M. Kiani, 2015. "Fiscal Balance and Current Account in Professional Forecasts," Review of International Economics, Wiley Blackwell, vol. 23(2), pages 361-378, May.
    5. repec:bla:sajeco:v:85:y:2017:i:1:p:68-85 is not listed on IDEAS
    6. Charl Jooste & Ruthira Naraidoo, 2017. "The Macroeconomics Effects of Government Spending Under Fiscal Foresight," South African Journal of Economics, Economic Society of South Africa, vol. 85(1), pages 68-85, March.

    More about this item

    Keywords

    VARs; fiscal policy; twin deficits; trade balance; Mundell-Fleming; forecast revisions; fiscal news; survey of professional forecasters;

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy

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