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The Dynamic Effects of Fiscal Stimulus in a Two Sector Open Economy

  • Ross Guest
  • Anthony J. Makin

In 2009-10 governments around the world implemented unprecedented fiscal stimulus in order to counter the impact of the Global Financial Crisis of 2008-09. This paper analyses the impact of fiscal stimulus using a dynamic open economy, overlapping generations model that allows for feedback effects of fiscal stimulus on private sector expenditure via changes in the tax rate and the interest rate. There are two types of goods – traded (T) and non-traded (N) goods, which differ in their capital intensities. The main qualitative result is that the dynamic output gains from fiscal stimulus depend on the productivity of the initial stimulus spending, on the speed of repayment of debt, on the sensitivities of the interest rate to government debt and of labour supply to the tax rate. Also, the overlapping generations framework allows an intergenerational welfare analysis. Among the biggest winners from stimulus are those about to retire. The biggest losers are those near the start of their working lives when the stimulus is implemented.

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Paper provided by DEGIT, Dynamics, Economic Growth, and International Trade in its series DEGIT Conference Papers with number c016_045.

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Length: 27 pages JEL Classification: E1, E2, E6
Date of creation: Sep 2011
Date of revision:
Handle: RePEc:deg:conpap:c016_045
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  1. Sven Jari Stehn & Daniel Leigh, 2009. "Fiscal and Monetary Policy During Downturns; Evidence From the G7," IMF Working Papers 09/50, International Monetary Fund.
  2. Maurice Obstfeld & Kenneth S. Rogoff, 1996. "Foundations of International Macroeconomics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262150476, June.
  3. William Coleman, 2010. "When Expansionary Fiscal Policy is Contractionary: A Neoklassikal Scenario," The Economic Record, The Economic Society of Australia, vol. 86(s1), pages 61-68, 09.
  4. T. W.Swan, 1960. "Economic Control In A Dependent Economy," The Economic Record, The Economic Society of Australia, vol. 36(73), pages 51-66, 03.
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