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Fiscal Policy and Learning

  • Mitra, Kaushik
  • Evans, George W.
  • Honkapohja, Seppo

Using the standard real business cycle model with lump-sum taxes, we analyze the impact of fiscal policy when agents form expectations using adaptive learning rather than rational expectations (RE). The output multipliers for government purchases are significantly higher under learning, and fall within empirical bounds reported in the literature (in sharp contrast to the implausibly low values under RE). Effectiveness of fiscal policy is demonstrated during times of economic stress like the recent Great Recession. Finally it is shown how learning can lead to dynamics empirically documented during episodes of 'fiscal consolidations.'

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Paper provided by Scottish Institute for Research in Economics (SIRE) in its series SIRE Discussion Papers with number 2012-10.

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Date of creation: 2012
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Handle: RePEc:edn:sirdps:313
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  8. Giavazzi, Francesco & Pagano, Marco, 1990. "Can Severe Fiscal Contractions Be Expansionary? Tales of Two Small European Countries," CEPR Discussion Papers 417, C.E.P.R. Discussion Papers.
  9. Eric M. Leeper & Nora Traum & Todd B. Walker, 2015. "Clearing Up the Fiscal Multiplier Morass," Caepr Working Papers 2015-013 Classification-C, Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington.
  10. Stefano Eusepi & Bruce Preston, 2008. "Expectations, Learning and Business Cycle Fluctuations," NBER Working Papers 14181, National Bureau of Economic Research, Inc.
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