Fed in Print

Abstract

The literature on the government spending multiplier has implicitly assumed that an increase in government spending has the same (mirror-image) effect as a decrease in government spending. We show that relaxing this assumption is important to understand the effects of fiscal policy. Regardless of whether we identify government spending shocks from (i) a narrative approach, or (ii) a timing restriction, we find that the contractionary multiplier—the multiplier associated with a negative shock to government spending—is above 1 and even larger in times of economic slack. In contrast, the expansionary multiplier—the multiplier associated with a positive shock—is substantially below 1 regardless of the state of the cycle. These results help understand seemingly conflicting results in the literature.

Regis Barnichon & Christian Matthes, Understanding the Size of the Government Spending Multiplier: It's in the Sign, Federal Reserve Bank of Richmond, Working Paper 17-15, 15 Dec 2017.

JEL Classification:

C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy

Fed-in-Print is the central catalog of publications within the Federal Reserve System. It is managed and hosted by the Economic Research Division, Federal Reserve Bank of St. Louis.

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