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Is Government Spending at the Zero Lower Bound Desirable?

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  • Florin Bilbiie
  • Tommaso Monacelli
  • Roberto Perotti

Abstract

Government spending at the zero lower bound (ZLB) is not necessarily welfare enhancing, even when its output multiplier is large. We illustrate this point in the context of a standard New Keynesian model. In that model, when government spending provides direct utility to the household, its optimal level is at most 0.5- 1 percent of GDP for recessions of -4 percent; the numbers are higher for deeper recessions. When spending does not provide direct utility, it is generically welfare- detrimental: it should be kept unchanged at a long run-optimal value. These results are conÂ…rmed in a medium-scale DSGE version of the model featuring sticky wages and equilibrium unemployment. Keywords: Government spending multiplier, zero lower bound, welfare. JEL ClassiÂ…cation Numbers: E62, D91, E21.

Suggested Citation

  • Florin Bilbiie & Tommaso Monacelli & Roberto Perotti, 2015. "Is Government Spending at the Zero Lower Bound Desirable?," Working Papers 555, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
  • Handle: RePEc:igi:igierp:555
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    14. Alessandro Barattieri & Susanto Basu & Peter Gottschalk, 2014. "Some Evidence on the Importance of Sticky Wages," American Economic Journal: Macroeconomics, American Economic Association, vol. 6(1), pages 70-101, January.
    15. Christopher J. Erceg & Jesper Linde, 2012. "Fiscal Consolidation in an Open Economy," American Economic Review, American Economic Association, vol. 102(3), pages 186-191, May.
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    Cited by:

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    2. Olivier Blanchard & Christopher J. Erceg & Jesper Lindé, 2017. "Jump-Starting the Euro-Area Recovery: Would a Rise in Core Fiscal Spending Help the Periphery?," NBER Macroeconomics Annual, University of Chicago Press, vol. 31(1), pages 103-182.
    3. Auray, Stéphane & Eyquem, Aurélien, 2020. "The macroeconomic effects of lockdown policies," Journal of Public Economics, Elsevier, vol. 190(C).
    4. Engin Kara & Jasmin Sin, 2018. "The Fiscal Multiplier in a Liquidity‐Constrained New Keynesian Economy," Scandinavian Journal of Economics, Wiley Blackwell, vol. 120(1), pages 93-123, January.
    5. Bouakez, Hafedh & Guillard, Michel & Roulleau-Pasdeloup, Jordan, 2020. "The optimal composition of public spending in a deep recession," Journal of Monetary Economics, Elsevier, vol. 114(C), pages 334-349.
    6. Antonio Antunes & Valerio Ercolani, 2020. "Public debt expansions and the dynamics of the household borrowing constraint," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 37, pages 1-32, July.
    7. Christian Bredemeier & Falko Juessen & Andreas Schabert, 2015. "Fiscal policy, interest rate spreads,and the zero lower bound," Working Paper Series in Economics 80, University of Cologne, Department of Economics.
    8. Adiya Belgibayeva & Michal Horvath, 2015. "Optimal Conventional Stabilization Policy in a Liquidity Trap When Wages and Prices are Sticky," Discussion Papers 15/11, Department of Economics, University of York.
    9. Stephanie Schmitt-Grohé & Martín Uribe, 2017. "Liquidity Traps and Jobless Recoveries," American Economic Journal: Macroeconomics, American Economic Association, vol. 9(1), pages 165-204, January.
    10. Gilles Dufrénot & Aurélia Jambois & Laurine Jambois & Guillaume Khayat, 2016. "Regime-Dependent Fiscal Multipliers in the United States," Open Economies Review, Springer, vol. 27(5), pages 923-944, November.

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    More about this item

    Keywords

    government spending multiplier; zero lower bound; welfare. jel classiâ…cation numbers: e62; d91; e21.;
    All these keywords.

    JEL classification:

    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy

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