The Effect of Fiscal Policy Shocks on the Flow of Funds
Abstract: This paper uses a selection of fiscal vector autoregression models to identify the effect of fiscal policy shocks on the private sectorâs balance sheet using the Flow of Funds. As well, I examine the response of treasury interest rates, the Federal Funds rate and the assets of the Federal Reserve to gauge the response of monetary policy to fiscal policy shocks. I find that the Federal Reserve does not respond to fiscal policy shocks in any significant way. I also find that the business sector responds to fiscal policy shocks but not very strongly. The household sector responds more clearly. Fiscal policy shocks have an effect on householdâs holdings of both short term liquid assets and long term illiquid assets. Spending shocks also have a clear effect on mortgage lending.
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