What are the Effects of Fiscal Policy Shocks?

43 Pages Posted: 29 May 2002

See all articles by Andrew Mountford

Andrew Mountford

Royal Holloway, University of London

Harald Uhlig

University of Chicago - Department of Economics

Multiple version iconThere are 3 versions of this paper

Date Written: April 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 donot 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 that 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

Mountford, Andrew and Uhlig, Harald, What are the Effects of Fiscal Policy Shocks? (April 2002). CEPR Discussion Paper No. 3338. Available at SSRN: https://ssrn.com/abstract=314459

Andrew Mountford (Contact Author)

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/

Harald Uhlig

University of Chicago - Department of Economics ( email )

1101 East 58th Street
Chicago, IL 60637
United States

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