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Understanding the effects of government spending on consumption

Recent evidence suggests that consumption rises in response to an increase in government spending. That finding cannot be easily reconciled with existing optimizing business cycle models. We extend the standard new Keynesian model to allow for the presence of rule-of-thumb consumers. We show how the interaction of the latter with sticky prices and deficit financing can account for the existing evidence on the effects of government spending.

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File URL: http://www.econ.upf.edu/docs/papers/downloads/911.pdf
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Paper provided by Department of Economics and Business, Universitat Pompeu Fabra in its series Economics Working Papers with number 911.

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Date of creation: Sep 2002
Date of revision: Aug 2005
Handle: RePEc:upf:upfgen:911
Contact details of provider: Web page: http://www.econ.upf.edu/

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