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Fiscal multipliers in a small euro area economy: How big can they get in crisis times?

  • Gabriela Lopes de Castro
  • Ricardo Mourinho Félix
  • Paulo Júlio
  • José R. Maria

Using PESSOA, a small open economy DSGE model, we analyze the size of short-runfiscal multipliers associated with fiscal consolidation under two distinct alternative scenarios, viz "normal times" and "crisis times." The crisis times scenario embodies a higher share of hand-to-mouth households, stronger nominal rigidities, and more severe financial frictions, which purportedly better refflect the underlying economic environment during the "Great Recession." Results show that fiscal multipliers can be twice as large in crisis times, being approximately 2 for a government consumptionbased fiscal consolidation in the first year. One-year ahead effects are also substantially larger if this type of consolidation is performed in crisis times. Revenue-based fiscal consolidations are also more recessive in crisis times, though the differences against normal times are less pronounced.

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Paper provided by Banco de Portugal, Economics and Research Department in its series Working Papers with number w201311.

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Date of creation: 2013
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