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Estimating Income Elasticity of Government Expenditures: Evidence from Oil Price Shocks

  • Brückner, Markus
  • Chong, Alberto
  • Gradstein, Mark

We estimate the income elasticity of government expenditures using variation in the international oil price as a plausibly exogenous source of within-country variation of countries’ permanent income. Our short run elasticity estimates, between 0.25-0.50, are generally somewhat smaller than the previously obtained ones, and they, in particular, indicate that Wagner’s law does not hold; long run elasticities are larger, but still smaller than unity. We also explore the correlates of the income elasticity of government spending and find no support for views that either democracy, inequality, or openness are associated with a larger elasticity. However, we find evidence consistent with “voracity” theories: cross-country differences in ethnic polarization are associated with a significantly higher oil price driven income elasticity of government spending.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 8563.

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Date of creation: Sep 2011
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Handle: RePEc:cpr:ceprdp:8563
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  1. Markus Brückner & Antonio Ciccone & Andrea Tesei, 2013. "Oil Price Shocks, Income, and Democracy," Working Papers 2013-18, FEDEA.
  2. Durevall, Dick & Henrekson, Magnus, 2010. "The Futile Quest for a Grand Explanation of Long-Run Government Expenditure," Working Paper Series 818, Research Institute of Industrial Economics, revised 28 Oct 2010.
  3. Philip R. Lane & Aaron Tornell, 1999. "The Voracity Effect," American Economic Review, American Economic Association, vol. 89(1), pages 22-46, March.
  4. Kilian, Lutz, 2006. "Not All Oil Price Shocks Are Alike: Disentangling Demand and Supply Shocks in the Crude Oil Market," CEPR Discussion Papers 5994, C.E.P.R. Discussion Papers.
  5. Tornell, Aaron & Lane, Philip R., 1998. "Are windfalls a curse?: A non-representative agent model of the current account," Journal of International Economics, Elsevier, vol. 44(1), pages 83-112, February.
  6. Ugo Panizza & Dany Jaimovich, 2007. "Procyclicality or Reverse Causality?," Research Department Publications 4508, Inter-American Development Bank, Research Department.
  7. Eyal Dvir & Kenneth S. Rogoff, 2009. "Three Epochs of Oil," NBER Working Papers 14927, National Bureau of Economic Research, Inc.
  8. Ethan Ilzetzki & Carlos A. Vegh, 2008. "Procyclical Fiscal Policy in Developing Countries: Truth or Fiction?," NBER Working Papers 14191, National Bureau of Economic Research, Inc.
  9. Zvi Hercowitz & Michel Strawczynski, 2004. "Cyclical Ratcheting in Government Spending: Evidence from the OECD," The Review of Economics and Statistics, MIT Press, vol. 86(1), pages 353-361, February.
  10. Akitoby, Bernardin & Clements, Benedict & Gupta, Sanjeev & Inchauste, Gabriela, 2006. "Public spending, voracity, and Wagner's law in developing countries," European Journal of Political Economy, Elsevier, vol. 22(4), pages 908-924, December.
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