What are the Effects of Fiscal Policy Shocks?

41 Pages Posted: 5 Apr 2002

See all articles by Harald Uhlig

Harald Uhlig

University of Chicago - Department of Economics

Andrew Mountford

Royal Holloway, University of London

Multiple version iconThere are 3 versions of this paper

Date Written: March 2002

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 non-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.

Keywords: Fiscal Policy, Vector Autoregression, Bayesian Econometrics, Agnostic identification

JEL Classification: C32, E60, E62, H20, H50, H60

Suggested Citation

Uhlig, Harald and Mountford, Andrew, What are the Effects of Fiscal Policy Shocks? (March 2002). Available at SSRN: https://ssrn.com/abstract=306321 or http://dx.doi.org/10.2139/ssrn.306321

Harald Uhlig (Contact Author)

University of Chicago - Department of Economics ( email )

1101 East 58th Street
Chicago, IL 60637
United States

Andrew Mountford

Royal Holloway, University of London ( email )

Royal Holloway, University of London
Egham
Surrey TW20 0EX
United Kingdom
+44 1784 443 906 (Phone)
+44 1784 439 534 (Fax)

HOME PAGE: http://personal.rhul.ac.uk/uhte/023/

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