Debt and the Effects of Fiscal Policy

Carlo Favero () and Francesco Giavazzi ()

No 12822, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: A shift in taxes or in government spending (a "fiscal shock") at some point in time puts a constraint on the path of taxes and spending in the future, since the government intertemporal budget constraint will eventually have to be met. This simple fact is surprisingly overlooked in analyses of the effects of fiscal policy based on Vector AutoRegressive models. We study the effects of fiscal shocks keeping track of the debt dynamics that arises following a fiscal shock, and allowing for the possibility that taxes, spending and interest rates might respond to the level of the debt, as it evolves over time. We show that omitting a debt feedback can result in incorrect estimates of the dynamic effects of fiscal shocks. In particular, the absence of an effect of fiscal shocks on long-term interest rates -- a frequent finding in studies that omit a debt feedback -- can be explained by their mis-specification. Using data for the U.S. economy and two alternative identification assumptions we reconsider the effects of fiscal policy shocks correcting for these shortcomings.

JEL-codes: E62 H60 (search for similar items in EconPapers)
Date: 2007-01
New Economics Papers: this item is included in nep-mac
Note: IFM PE EFG
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (164)

Downloads: (external link)
http://www.nber.org/papers/w12822.pdf (application/pdf)

Related works:
Working Paper: Debt and the Effects of Fiscal Policy (2007)
Working Paper: Debt and the effects of fiscal policy (2007)
Working Paper: Debt and the effects of fiscal policy (2007)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:nbr:nberwo:12822

Ordering information: This working paper can be ordered from
http://www.nber.org/papers/w12822

Access Statistics for this paper

More papers in NBER Working Papers from National Bureau of Economic Research, Inc National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.. Contact information at EDIRC.
Bibliographic data for series maintained by ().