Investment-Saving Co-Movement Under Endogenous Fiscal Policy
Open Economies Review, Vol. 6, No. 3, pp. 237-254, July 1995
Posted: 27 Feb 2005
I expand Feldstein's (1983) model by including flexible exchange rate and by introducing endogenous fiscal policy. Using the model, I demonstrate how a positive investment-saving correlation can arise in a world with endogenous fiscal policy. I show that this correlation does not depend on capital mobility and therefore is compatible with any degree of capital mobility. This implies that the observed investment-saving co-movement is not necessarily due to imperfect capital mobility. The model has a testable implication: it predicts a lack of Granger causality from private saving to private investment. Empirical examination of this prediction indicates that US time series data is compatible with the hypothesis of endogenous fiscal policy during a flexible exchange rate period, but not during a fixed exchange rate period.
Keywords: Investment-Saving Comovement, Feldstein-Horioka Puzzle, International Capital Mobility, Endogenous Fiscal Policy
JEL Classification: F21, F32, F40
Suggested Citation: Suggested Citation