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E¤ects of Fiscal Stimulus in Structural Models
DOUGLAS LAXTONInternational Monetary Fund
June 2nd, 2009
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Contributors
European Commission: Jan in �t Veld and Werner Roeger
International Monetary Fund : Michael Kumhof, Douglas Laxton, Dirk Muir, and Susanna Mursula
European Central Bank: Günter Coenen and Mathias Trabandt
Board of Governors of the Federal Reserve System: Christopher Erceg, Jesper Lindé, and JohnRoberts
OECD: David Furceri and Annabelle Mourougane
Bank of Canada: Carlos de Resende and Stephen Snudden
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Outline of the Presentation
1. Basic objectives and conclusions
2. Summary of the methodology and the models
3. What did we learn?
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Basic Objectives
1. Compare �scal multipliers from structural models developed in policymaking institutions.
2. Examine what assumptions give rise to large and small multipliers.
3. Use the models to quantify the e¤ects of the G20 stimulus.
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Basic Conclusions
1. No such thing as a simple �scal multiplier! The response of the economy to discretionary�scal stimulus depends on a number of factors.
2. The 4 global models suggest that the G20 stimulus will have important e¤ects on global GDP.Without this stimulus, the models suggest that global GDP would be substantially weaker in2009 and 2010.
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Multipliers from Temporary Changes in Fiscal Instruments
� The change in the �scal instrument is calibrated to generate a change in expenditures orrevenues equal to 1% of baseline GDP, for either one year or two years.
� The government de�cit and debt respond endogenously because of automatic stabilizers.
� The multiplier is measured simply in terms of real GDP as a percent deviation from thebaseline.
� It is assumed there is a coordinated global monetary policy response. Monetary policy isdetermined by an interest rate reaction function, where interest rates are allowed to eitheradjust freely, or are held �xed for one or two years.
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Why is it Critical to Examine the Multipliers under Monetary Accommodation?
� Timely �scal expansions are critical when there are risks of de�ation and the policy rate is atthe zero interest rate �oor.
� In a situation where �scal stimulus is designed to help exit from a recession, �scal multipliersshould be expected to be larger than during periods when monetary and �scal policies areworking at cross purposes and central banks are raising interest rates to o¤set the expansionaryand in�ationary implications of a �scal expansion.
� Considered 3 cases. No monetary accommodation, where central banks raise interest rates,and 2 alternatives, where there are 1 and 2 year delays in raising rates.
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The Seven Fiscal Instruments
1. increase in government consumption.
2. increase in government investment.
3. increase in general lumpsum transfers.
4. increase in lumpsum transfers targeted to hand-to-mouth consumers.
5. decrease in labour tax revenue collection.
6. decrease in consumption tax revenue collection.
7. decrease in corporate income tax revenue collection.
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Summarizing the Models
� Six institutions participated �European Commission, International Monetary Fund, EuropeanCentral Bank, Board of Governors of the Federal Reserve System (with two models), OECD,and the Bank of Canada.
� 6 DSGE models; all models are structural.
� The 4 global models are BoC-GEM, GIMF, QUEST and SIGMA.
� NAWM is a 2 region model (United States and the euro area).
� FRB-US is the United States only.
� OECD Fiscal is the euro area only.
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A. The Magnitude of the Fiscal Multiplier Depends on Many Factors
The magnitude of the �scal multiplier is highly dependent on a number of factors, which may beanother important reason why reduced-form empirical estimates are all over the map.
A.1 The Role of Monetary Accommodation
� The multiplier should be expected to be larger when a �scal expansion is needed because it ismore likely that it will be accommodated by monetary policy. This point came through in allthe model simulations.
No monetary accommodation: Monetary accommodation:
aggregate demand " =) real interest rate " aggregate demand " =) in�ation "
o¤sets the �scal stimulus =) real interest rate #
complements and exacerbates the �scal
stimulus
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Figure 1:
Instrument: Government InvestmentReal GDP
1 Year of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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1 Year of Monetary Accommodation(In percent)
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Figure 2:
Instrument: Government InvestmentReal GDP
1 Year of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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0 1 2 3 4 5
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2 Years of Monetary Accommodation(In percent)
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Figure 3:
Instrument: Government InvestmentInflation
1 Year of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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No Monetary Accommodation(In percentage points)
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1 Year of Monetary Accommodation(In percentage points)
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Figure 4:
Instrument: Government InvestmentInflation
1 Year of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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No Monetary Accommodation(In percentage points)
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2 Years of Monetary Accommodation(In percentage points)
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Figure 5:
Instrument: Government InvestmentReal Interest Rate
1 Year of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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1 Year of Monetary Accommodation(In percentage points)
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Figure 6:
Instrument: Government InvestmentReal Interest Rate
1 Year of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
0.5
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0 1 2 3 4 5
No Monetary Accommodation(In percentage points)
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2 Years of Monetary Accommodation(In percentage points)
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A.2 Persistence of the Fiscal Stimulus
� The multiplier will depend on the persistence of the �scal stimulus measure.
� Fiscal expansions that are expected to persist inde�nitely will have smaller multipliers becausethey will generate stronger private-sector o¤sets.
� However, when �scal expansions are necessary to help �ght a de�ationary threat, a 2-yearexpansion can have larger multiplier e¤ects than a 1-year expansion, if it is successful inraising in�ation and reducing real interest rates.
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Figure 7:
Instrument: Government InvestmentReal GDP
2 Years of Monetary Accommodation EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
0.0
0.5
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0 1 2 3 4 5
1 Year of Fiscal Stimulus(In percent)
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A.3 Some Multipliers Enter Aggregate Demand Directly
� The multipliers are larger for government absorption (investment and consumption) than forother instruments.
� This point comes through in all the model simulations.
� This result is uncontroversial, because these shocks have direct e¤ects on aggregate demand,and do not have to work by a¤ecting private sector spending behavior.
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Figure 8:
Instrument: Government ConsumptionReal GDP
2 Years of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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No Monetary Accommodation(In percent)
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A.4 Some Multipliers Act Through Indirect Channels
� The multipliers are smallest for general transfers and corporate taxes, as consumers and �rmssee through the temporary nature of the shocks.
� Somewhat larger for labor tax movements, but still much smaller than direct purchases (gov-ernment absorption).
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Figure 9:
Instrument: General TransfersReal GDP
2 Years of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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No Monetary Accommodation(In percent)
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Figure 10:
Instrument: Labor Income TaxUnited States: Real GDP
2 Years of Fiscal Stimulus EC's QUEST; IMF's GIMF; Fed's FRBUS
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Figure 11:
Instrument: Corporate Income TaxUnited States: Real GDP
2 Years of Fiscal Stimulus EC's QUEST; IMF's GIMF; Fed's SIGMA; BoC's GEM
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A.5 The Role of Hand-to-Mouth or Liquidity-Constrained Consumers
� The multiplier depends on the share of hand-to-mouth or credit-constrained consumers.
� A good example are temporary cuts in general transfers.
� General transfers do not a¤ect the behavior of forward-looking consumers, because theyadjust their savings behavior to partially o¤set future tax liabilities.
� Hand-to-mouth (HM) and credit-constrained (CC) consumers spend in response to highergeneral transfers.
� The multipliers are small across all models, but will be somewhat larger in those models thathave a higher share of hand-to-mouth or credit-constrained consumers.
� namely, FRB-US (40% HM), SIGMA (50% HM) and QUEST (20% HM and 20% CC).
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Figure 12:
Instrument: General TransfersReal GDP
2 Years of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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A.6 The E¤ects of Targeting Transfers
� Targeting lump-sum transfers to people who will spend them in full, immediately, has similare¤ects to an increase in direct government purchases.
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Figure 13:
Instrument: Targeted TransfersReal GDP
2 Years of Fiscal Stimulus EC's QUEST; IMF's GIMF; ECB's NAWM; Fed's FRBUS; Fed's SIGMA; BoC's GEM
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A.7 The Role of Economic Openness
� The multiplier depends on openness. It is smaller for Europe than the United States, becauseEurope is more open.
A.8 The Degree of Nominal Rigidities in Prices and Wages
� The multiplier depends on the degree of nominal rigidities when there is monetary accommo-dation with the objective of raising in�ation and reducing the real interest rate.
= another reason why the multiplier is smaller in Europe.
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Figure 14:
Instrument: Government InvestmentReal GDP
2 Years of Monetary Accommodation EC's QUEST; IMF's GIMF; ECB's NAWM; OECD's Fiscal; Fed's FRBUS; Fed's SIGMA; BoC's GEM
0.0
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2.0
2.5
3.0
3.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0 1 2 3 4 5
Euro Area / European Union(In percent)
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0 1 2 3 4 5
United States(In percent)
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Figure 15:
Instrument: Government InvestmentInflation
2 Years of Monetary Accommodation EC's QUEST; IMF's GIMF; ECB's NAWM; OECD's Fiscal; Fed's FRBUS; Fed's SIGMA; BoC's GEM
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0 1 2 3 4 5
Euro Area / European Union(In percentage points)
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
0 1 2 3 4 5
United States(In percentage points)
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Figure 16:
Instrument: Government InvestmentReal Interest Rate
2 Years of Monetary Accommodation EC's QUEST; IMF's GIMF; ECB's NAWM; OECD's Fiscal; Fed's FRBUS; Fed's SIGMA; BoC's GEM
3.0
2.5
2.0
1.5
1.0
0.5
0.0
0.5
1.0
3.0
2.5
2.0
1.5
1.0
0.5
0.0
0.5
1.0
0 1 2 3 4 5
Euro Area / European Union(In percentage points)
3.0
2.5
2.0
1.5
1.0
0.5
0.0
0.5
1.0
3.0
2.5
2.0
1.5
1.0
0.5
0.0
0.5
1.0
0 1 2 3 4 5
United States(In percentage points)
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B. Permanent Changes in the Fiscal Instruments
There could be large long-term crowding-out e¤ects from a buildup in government debt.
B.1 More Negative E¤ects if the World is Non-Ricardian
� In the non-Ricardian models (such as GIMF) government debt is treated as wealth by con-sumers.
=) higher debt requires a permanent increase in real interest rates to contain expansionarye¤ects, reducing investment and the long-term level of potential output and real income.
B.2 More Negative E¤ects from the Composition of Taxes
� If this results in using larger distortionary taxes (capital versus labor because supply of theformer is more elastic), this would exacerbate the crowding-out e¤ects of higher levels ofgovernment debt.
B.3 Negative E¤ects on Potential Output
� If this results in large cuts to government investment to �nance the interest burden, it couldhave large negative consequences, as the long-term level of potential output is reduced.
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B.4 Long-Run Crowding Out E¤ects the Short Run
� If agents perceive that a temporary �scal stimulus measure will be, instead, a permanentchange in a �scal instrument, the short-run multiplier will be lower, in anticipation of thelong-run crowding out e¤ects.
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Figure 17:
Instrument: Government ConsumptionEuropean Union / Euro Area: Real GDP
No Monetary Accommodation EC's QUEST; IMF's GIMF; ECB's NAWM
0.4
0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
0.4
0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
0 1 2 3 4 5
1 Year of Fiscal Stimulus(In percent)
0.4
0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
0.4
0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
0 1 2 3 4 5
Permanent Change in the Fiscal Instrument(In percent)
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C. A Real World Example �The G20�s Announced Fiscal Stimulus Packages
Consider the �scal stimulus packages that are going to be implemented over 2009 and 2010 bythe G20 countries.
� Japan and Emerging Asia spend more in 2009; other regions are roughly equal 2009 and 2010.
� Europe has the smallest packages; very little is spent in Africa or Latin America.
� Composition:
1. Emerging Asia: Spending dominates.
2. Japan: Transfers dominate.
3. U.S.: Transfers and labor taxes dominate.
4. Euro Area and Other Countries: Big role for capital income taxes in 2010.
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Model Comparison
Compare the results from the G20 �scal stimulus packages for the United States and the rest ofthe world, from BoC-GEM, GIMF, QUEST, and SIGMA.
� SIGMA is largest, while QUEST is smallest, but the results are all very similar.
� a key driver = in�ation persistence and e¤ectiveness of monetary policy.
� for example, there is little in�ation movement in QUEST; high in�ation movement inGIMF, so monetary accommodation has a much larger e¤ect in GIMF.
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Figure 18:
G20 Fiscal Stimulus PackagesReal GDP (Percent Deviation from Baseline)
EC's QUEST; IMF's GIMF; Fed's SIGMA; BoC's GEM
1
0
1
2
3
4
1
0
1
2
3
4
0 1 2 3 4 5
United States
1
0
1
2
3
4
1
0
1
2
3
4
0 1 2 3 4 5
2 Years of Monetary AccommodationRest of the World
1
0
1
2
3
4
1
0
1
2
3
4
0 1 2 3 4 5
Global
1
0
1
2
3
4
1
0
1
2
3
4
0 1 2 3 4 5
United States
1
0
1
2
3
4
1
0
1
2
3
4
0 1 2 3 4 5
No Monetary AccommodationRest of the World
1
0
1
2
3
4
1
0
1
2
3
4
0 1 2 3 4 5
Global
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What Did We Learn?
� Fiscal stimulus has a role to play.
� Particularly in a low in�ation environment, where output is below potential, and monetarypolicy is accommodative.
� It is key that �scal policy is conducted to maintain �scal responsibility in the medium andlong term.