HABIT FORMATION AND GOVERNMENT SPENDING IN A SMALL OPEN ECONOMY

Cem Karayalcin

Macroeconomic Dynamics, 2003, vol. 7, issue 3, 407-423

Abstract: The paper studies the effects of an expansionary fiscal policy in a general equilibrium model of a small open economy. Households are assumed to possess habit-forming, endogenous rates of time preference. In response to fiscal shocks, the model generates cyclical endogenous persistence and procyclical time paths for consumption, employment, and investment, as well as a countercyclical path for the current account. Furthermore, fiscal shocks are shown to have positive long-run effects on output and negative long-run effects on consumption.

Date: 2003
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