Paper #1268

Title:

Fiscal policy, pricing frictions and monetary accommodation

Authors:

Fabio Canova and Evi Pappa

Date:

March 2011

Abstract:

We investigate the theoretical conditions for effectiveness of government consumption expenditure expansions using US, Euro area and UK data. Fiscal expansions taking place when monetary policy is accommodative lead to large output multipliers in normal times. The 2009-2010 packages need not produce significant output multipliers, may have moderate debt effects, and only generate temporary inflation. Expenditure expansions accompanied by deficit/debt consolidations schemes may lead to short run output gains but their success depends on how monetary policy and expectations behave. Trade openness and the cyclicality of the labor wedge explain cross-country differences in the magnitude of the multipliers.

Keywords:

Government consumption expenditure shocks; pricing frictions; monetary policy accommodation; debt and inflation dynamics

JEL codes:

C32, E62, E63

Area of Research:

Macroeconomics and International Economics

Published in:

Economic Policy, 68, 555-598, 2011

Download the paper in PDF format