Can Automatic Government Spending Be Procyclical?

44 Pages Posted: 8 Mar 2021 Last revised: 13 Mar 2021

See all articles by Luciana Galeano

Luciana Galeano

World Bank

Alejandro Izquierdo

Inter-American Development Bank (IDB) - Research Department

Jorge Puig

Universidad Nacional de La Plata

Carlos A. Vegh

Johns Hopkins University - Paul H. Nitze School of Advanced International Studies (SAIS); University of Maryland - Department of Economics; University of California at Los Angeles; National Bureau of Economic Research (NBER)

Guillermo Javier Vuletin

World Bank

Date Written: March 2021

Abstract

It is well-known by now that government spending has typically been countercyclical in industrial countries and procyclical in developing economies. Most of this literature has focused on analyzing aggregate government spending or discretionary spending categories such as government consumption and government investment. Little is known, however, about the cyclical behavior of automatic government spending, which comprises unemployment insurance, family programs, and social security transfers. Automatic government spending follows from laws, or even constitutional clauses, that benefit individuals who meet certain eligibility criteria. In principle, the main categories of automatic government spending are expected to be either countercyclical (especially unemployment insurance and other shock absorber programs) or acyclical (particularly social security and other structural programs). We find that while automatic government spending is, as expected, countercyclical in industrial countries, it is, surprisingly, procyclical in the developing world. We track the source of this puzzling procyclical behavior to (i) the effective lack of automatic stabilizers like unemployment insurance and (ii) more intriguingly, the existence of perverse automatic de-stabilizing mechanisms in social security spending (in particular in the absence of indexation mechanisms). We also show that the presence and nature of these two social programs are crucial new determinants of aggregate government spending cyclicality as well as macroeconomic volatility, even after controlling for other well-known determinants and addressing potential endogeneity concerns.

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Suggested Citation

Galeano, Luciana and Izquierdo, Alejandro and Puig, Jorge and Vegh, Carlos A. and Vuletin, Guillermo Javier, Can Automatic Government Spending Be Procyclical? (March 2021). NBER Working Paper No. w28521, Available at SSRN: https://ssrn.com/abstract=3799812

Alejandro Izquierdo

Inter-American Development Bank (IDB) - Research Department ( email )

1300 New York Ave., NW
Washington, DC 20577
United States

Jorge Puig

Universidad Nacional de La Plata ( email )

7 NÂș 776
Buenos Aires, BA 1900
Argentina

Carlos A. Vegh

Johns Hopkins University - Paul H. Nitze School of Advanced International Studies (SAIS) ( email )

1740 Massachusetts Avenue, NW
Washington, DC 20036-1984
United States

University of Maryland - Department of Economics ( email )

College Park, MD 20742
United States

University of California at Los Angeles ( email )

Box 951477
Los Angeles, CA 90095-1477
United States
310-825-7371 (Phone)
310-825-9528 (Fax)

HOME PAGE: http://vegh.sscnet.ucla.edu

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
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Guillermo Javier Vuletin

World Bank ( email )

1818 H Street, NW
Washington, DC 20433
United States

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