Government Spending Policy Uncertainty and Economic Activity: U.S. Time Series Evidence

Abstract

In this paper, I empirically examine the effects of uncertainty about government spending policy on economic activity using U.S. time series data. To this end, I constructed government spending policy uncertainty indexes and estimate proxy SVAR model. Proxy SVAR model with constructed indexes shows that an increase in government spending policy uncertainty has negative, sizable, and prolonged effects on economic activity. Moreover, the results imply that the commonly adopted recursive SVAR model in literature on policy uncertainty systematically underestimates the adverse effect of government spending policy uncertainty because of the endogeneity issue. One policy suggestion based on the empirical finding is clear announcement of future government spending path.

Keywords: Policy Uncertainty, Government Spending Policy Uncertainty Index, Government Spending Policy Uncertainty Shock, Proxy SVAR

JEL Classification: C32, E32, E62