What are the Effects of Fiscal Policy Shocks?

A.W. Mountford, H.F.H.V.S. Uhlig

Research output: Working paperDiscussion paperOther research output

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Abstract

We investigate the effects of fiscal policy surprises for US data, using vector autoregressions.We overcome the difficulties that changes in fiscal policy may manifest themselves in variables other than fiscal variables first and that fiscal variables may respond 'automatically' to business cycle conditions.We do so by using sign restrictions on the impulse responses as method of identification, extending Uhlig (1997), and by imposing orthogonality to business cycle shocks and monetary policy shocks.We find that controlling for the business cycle shock is important, but controlling for the monetary policy shock is not, that government spending shocks crowd out both residential and on-residential investment but do not reduce consumption, that a deficit spending cut stimulates the economy for the first 4 quarters but has a low median multiplier of 0:5, and that a surprise tax increase has a contractionary effect on output, consumption and investment.Our results differ from the benchmarks of Ricardian equivalence and tax smoothing, and are more in line with theories which allow for intergenerational redistribution with limits to the compensating effects of bequests.The best fiscal policy for stimulating the economy appears to be a deficit-financed tax cut.
Original languageEnglish
Place of PublicationTilburg
PublisherMacroeconomics
Volume2002-31
Publication statusPublished - 2002

Publication series

NameCentER Discussion Paper
Volume2002-31

Fingerprint

Business cycles
Fiscal policy
Fiscal
Surprise
Monetary policy shocks
Bequests
Benchmark
Impulse response
Multiplier
Tax
Sign restrictions
Residential investment
Tax cuts
Median
Ricardian equivalence
Redistribution
Tax smoothing
Vector autoregression
Government spending
Crowd-out

Keywords

  • fiscal policy
  • econometrics
  • monetary policy
  • business cycles
  • vector autoregressive models

Cite this

Mountford, A. W., & Uhlig, H. F. H. V. S. (2002). What are the Effects of Fiscal Policy Shocks? (CentER Discussion Paper; Vol. 2002-31). Tilburg: Macroeconomics.
Mountford, A.W. ; Uhlig, H.F.H.V.S. / What are the Effects of Fiscal Policy Shocks?. Tilburg : Macroeconomics, 2002. (CentER Discussion Paper).
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Mountford, AW & Uhlig, HFHVS 2002 'What are the Effects of Fiscal Policy Shocks?' CentER Discussion Paper, vol. 2002-31, Macroeconomics, Tilburg.

What are the Effects of Fiscal Policy Shocks? / Mountford, A.W.; Uhlig, H.F.H.V.S.

Tilburg : Macroeconomics, 2002. (CentER Discussion Paper; Vol. 2002-31).

Research output: Working paperDiscussion paperOther research output

TY - UNPB

T1 - What are the Effects of Fiscal Policy Shocks?

AU - Mountford, A.W.

AU - Uhlig, H.F.H.V.S.

N1 - Subsequently published in Journal of Applied Econometrics, 2009 (rt)

PY - 2002

Y1 - 2002

N2 - We investigate the effects of fiscal policy surprises for US data, using vector autoregressions.We overcome the difficulties that changes in fiscal policy may manifest themselves in variables other than fiscal variables first and that fiscal variables may respond 'automatically' to business cycle conditions.We do so by using sign restrictions on the impulse responses as method of identification, extending Uhlig (1997), and by imposing orthogonality to business cycle shocks and monetary policy shocks.We find that controlling for the business cycle shock is important, but controlling for the monetary policy shock is not, that government spending shocks crowd out both residential and on-residential investment but do not reduce consumption, that a deficit spending cut stimulates the economy for the first 4 quarters but has a low median multiplier of 0:5, and that a surprise tax increase has a contractionary effect on output, consumption and investment.Our results differ from the benchmarks of Ricardian equivalence and tax smoothing, and are more in line with theories which allow for intergenerational redistribution with limits to the compensating effects of bequests.The best fiscal policy for stimulating the economy appears to be a deficit-financed tax cut.

AB - We investigate the effects of fiscal policy surprises for US data, using vector autoregressions.We overcome the difficulties that changes in fiscal policy may manifest themselves in variables other than fiscal variables first and that fiscal variables may respond 'automatically' to business cycle conditions.We do so by using sign restrictions on the impulse responses as method of identification, extending Uhlig (1997), and by imposing orthogonality to business cycle shocks and monetary policy shocks.We find that controlling for the business cycle shock is important, but controlling for the monetary policy shock is not, that government spending shocks crowd out both residential and on-residential investment but do not reduce consumption, that a deficit spending cut stimulates the economy for the first 4 quarters but has a low median multiplier of 0:5, and that a surprise tax increase has a contractionary effect on output, consumption and investment.Our results differ from the benchmarks of Ricardian equivalence and tax smoothing, and are more in line with theories which allow for intergenerational redistribution with limits to the compensating effects of bequests.The best fiscal policy for stimulating the economy appears to be a deficit-financed tax cut.

KW - fiscal policy

KW - econometrics

KW - monetary policy

KW - business cycles

KW - vector autoregressive models

M3 - Discussion paper

VL - 2002-31

T3 - CentER Discussion Paper

BT - What are the Effects of Fiscal Policy Shocks?

PB - Macroeconomics

CY - Tilburg

ER -

Mountford AW, Uhlig HFHVS. What are the Effects of Fiscal Policy Shocks? Tilburg: Macroeconomics. 2002. (CentER Discussion Paper).