Fiscal Cyclicality and the Information Channel of Government Spending Shocks

77 Pages Posted: 15 Apr 2024

See all articles by Christopher Evans

Christopher Evans

International Monetary Fund

Siming Liu

Binghamton University - Department of Economics

Shengliang Ou

Shanghai University of Finance and Economics

Date Written: March 19, 2024

Abstract

This paper develops an open economy model with asymmetric information to account for the heterogeneity in the transmission of government spending policy. Using a panel of 41 countries, we document that in countries with a countercyclical fiscal policy, an increase in government purchases stimulates consumption and depreciates the real exchange rate. If fiscal policies are procyclical, the consumption crowding-in is weaker, and the real exchange rate appreciates. The calibrated model with the signaling channel of fiscal policy replicates well the observed responses to spending shocks. In particular, a change in government spending reveals its view about the state of the economy, thus inducing price setters' misaligned beliefs on economic fluctuations. The evidence from commercial forecasts supports our information channel.

Keywords: Fiscal multiplier, Government spending shocks, Real exchange rate, Noisy information, Signaling effect.

JEL Classification: E62, F31, F41, F44

Suggested Citation

Evans, Christopher and Liu, Siming and Ou, Shengliang, Fiscal Cyclicality and the Information Channel of Government Spending Shocks (March 19, 2024). Available at SSRN: https://ssrn.com/abstract=4765349 or http://dx.doi.org/10.2139/ssrn.4765349

Christopher Evans

International Monetary Fund ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Siming Liu (Contact Author)

Binghamton University - Department of Economics ( email )

Binghamton, NY 13902-6000
United States

Shengliang Ou

Shanghai University of Finance and Economics ( email )

777 Guoding Road
Shanghai, AK Shanghai 200433
China

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