Government Spending Shocks and Rule-of-Thumb Consumers: The Role of Steady State Inequality

32 Pages Posted: 9 Sep 2010

See all articles by Gisle James James Natvik

Gisle James James Natvik

BI Norwegian Business School - Department of Economics

Date Written: August 17, 2010

Abstract

Galí, López-Salido, and Vallés (2007) suggest that because part of the population follow a rule-of-thumb by which they spend their entire disposable income each period, private consumption responds positively to deficit-financed increases in government spending. Key to this result is a centralized labor market. I show that the ability to explain the positive consumption response as a consequence of rule-of-thumb behavior hinges on the arbitrary assumption that wealth is redistributed across households in steady state. Inequality leads to equilibrium indeterminacy and undermines the theoretical foundation of the centralized labor market.

Keywords: Rule-of-thumb consumers, wealth inequality, government spending, indeterminacy

JEL Classification: E32, E62

Suggested Citation

Natvik, Gisle James James, Government Spending Shocks and Rule-of-Thumb Consumers: The Role of Steady State Inequality (August 17, 2010). Norges Bank Working Paper 2010/14, Available at SSRN: https://ssrn.com/abstract=1673802

Gisle James James Natvik (Contact Author)

BI Norwegian Business School - Department of Economics ( email )

Nydalsveien 37
Oslo, 0484
Norway

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