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Government Spending and Growth Cycles: Fiscal Policy in a Dynamic Context

  • Jamee K. Moudud
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    In this paper the impact of fiscal policy is analyzed within the context of an endogenous growth and cycles model. The investigation shows the different situations in which government expenditure can lead to both crowding-in and crowding-out of output and employment. With regard to the cycle, an increase in the share of government spending leads to an expansion of output, which is given a greater stimulus with a higher degree of monetization. Expansionary monetary policies accompanying the fiscal expansion tend to make the upswing longer and the downswing more shallow, i.e., the cycle becomes more asymmetric. The medium-run dynamics of the model along its warranted growth path essentially rest on the relative movements of business retained earnings (i.e., the private savings rate since household savings are ignored) and the government spending share. With the private savings rate fixed, a rise in the government spending share leads to medium-run crowding-out. On the other hand, if policies such as investment tax credits, lower rates of corporate taxation, and accelerated deductions for capital depreciation stimulate the growth of the business retained earnings, then an increase in the government spending share may either not have any effect on the warranted path or may even raise it, i.e., there might be crowding-in. Moreover, abstracting from any changes in retained earnings, an increase in the level of government spending produces an expansionary cyclical effect with no medium-run crowding-out. Finally, the model exploits the empirical finding that infrastructure investment by the government lowers business costs. This relationship is used to demonstrate that the warranted growth path can be increased via a shift from government consumption expenditures to infrastructure investment. In contrast to mainstream analyses these complex results imply that, within limits, the state has a number of policy levers at its disposal to regulate output and employment.

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    File URL: http://www.levyinstitute.org/pubs/wp260.pdf
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    Paper provided by Levy Economics Institute in its series Economics Working Paper Archive with number wp_260.

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    Date of creation: Dec 1998
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    Handle: RePEc:lev:wrkpap:wp_260
    Contact details of provider: Web page: http://www.levyinstitute.org

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    1. Philip Arestis & Malcolm Sawyer, 1998. "The Macroeconomics of Industrial Strategy," Macroeconomics 9808002, EconWPA.
    2. HARJIT K. Arora & PAMI Dua, 1993. "Budget Deficits, Domestic Investment, And Trade Deficits," Contemporary Economic Policy, Western Economic Association International, vol. 11(1), pages 29-44, 01.
    3. Lavoie, Marc, 1995. "The Kaleckian Model of Growth and Distribution and Its Neo-Ricardian and Neo-Marxian Critiques," Cambridge Journal of Economics, Oxford University Press, vol. 19(6), pages 789-818, December.
    4. Martin Feldstein, 1992. "The Budget and Trade Deficits Aren't Really Twins," NBER Working Papers 3966, National Bureau of Economic Research, Inc.
    5. Dimitri B. Papadimitriou & L. Randall Wray, 1994. "Flying Blind: The Federal Reserve's Experiment with Unobservables," Economics Working Paper Archive wp_124, Levy Economics Institute.
    6. repec:cup:cbooks:9780521443258 is not listed on IDEAS
    7. Alicia H. Munnell, 1992. "Policy Watch: Infrastructure Investment and Economic Growth," Journal of Economic Perspectives, American Economic Association, vol. 6(4), pages 189-198, Fall.
    8. John F. Henry & L. Randall Wray, 1998. "Economic Time," Economics Working Paper Archive wp_255, Levy Economics Institute.
    9. Fazzari, Steven M & Hubbard, R Glenn & Petersen, Bruce C, 1988. "Investment, Financing Decisions, and Tax Policy," American Economic Review, American Economic Association, vol. 78(2), pages 200-205, May.
    10. Greiner, Alfred & Semmler, Willi, 2000. "Endogenous Growth, Government Debt and Budgetary Regimes," Journal of Macroeconomics, Elsevier, vol. 22(3), pages 363-384, July.
    11. Sterman, John D., 1985. "A behavioral model of the economic long wave," Journal of Economic Behavior & Organization, Elsevier, vol. 6(1), pages 17-53, March.
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