Public Infrastructure Investment, Output Dynamics, and Balanced Budget Fiscal Rules

P.R. Duarte Bom, J.E. Ligthart

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We study the dynamic output and welfare effects of public infrastructure investment under a balanced budget fiscal rule, using an overlapping generations model of a small open economy. The government finances public investment by employing distortionary labor taxes. We find a negative short-run output multiplier, which (in absolute terms) exceeds the positive long-run output multiplier. In contrast to conventional results regarding public investment shocks, we obtain dampened cycles in output and the labor tax rate. The cyclical dynamics are induced by the interaction of households' finite life spans, the wealth effect on labor supply, and the balanced budget fiscal rule. Finally, we show that, for a plausible calibration of our model, households' lifetime welfare improves.
Original languageEnglish
Place of PublicationTilburg
Publication statusPublished - 2011

Publication series

NameCentER Discussion Paper


  • Infrastructure capital
  • public investment
  • distortionary taxation
  • fiscal policy
  • Yaari-Blanchard overlapping generations


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