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The Output and Welfare Effects of Government Spending Shocks over the Business Cycle

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  • Eric Sims
  • Jonathan Wolff

Abstract

This paper studies the state-dependence of the output and welfare effects of shocks to government purchases in a canonical medium scale DSGE model. When monetary policy is characterized by a Taylor rule, the output multiplier (the change in output for a one unit change in government spending) is countercyclical but close to constant across states of the business cycle, whereas the welfare multiplier (the consumption equivalent change in a measure of aggregate welfare for the same change in government spending) is quite volatile and procyclical. These results are robust to different means of fiscal finance. When the nominal interest rate is unresponsive to economic conditions, such as would be the case at the zero lower bound, both the output and welfare multipliers are larger and move significantly more across states than under a Taylor rule. The welfare multiplier is still procyclical under passive monetary policy, albeit less so than under a Taylor rule.

Suggested Citation

  • Eric Sims & Jonathan Wolff, 2013. "The Output and Welfare Effects of Government Spending Shocks over the Business Cycle," NBER Working Papers 19749, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:19749
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    More about this item

    JEL classification:

    • E0 - Macroeconomics and Monetary Economics - - General
    • E1 - Macroeconomics and Monetary Economics - - General Aggregative Models
    • E2 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment
    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E6 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory

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