Employment hysteresis: an argument for avoiding front-loaded fiscal consolidations in the eurozone

Paulo R. Mota, Abel L.C. Fernandes and Paulo B. Vasconcelos
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Paulo R. Mota: University of Porto – School of Economics and Management and CEF.UP, Portugal
Abel L.C. Fernandes: University of Porto – School of Economics and Management and CEF.UP, Portugal
Paulo B. Vasconcelos: University of Porto – School of Economics and Management and CEF.UP, Portugal

Review of Keynesian Economics, 2020, vol. 8, issue 4, 536–559

Abstract: The austerity policies applied by the eurozone peripheral governments under the Troika financial assistance programmes have contributed to a sharp reduction in aggregate demand, regardless of the unconventional measures undertaken by the European Central Bank (ECB). The ECB decreased the interest rate on the main refinancing operations to zero and has been buying assets from banks on a massive scale under the Expanded Asset Purchase Programme. The fact that these extraordinary measures have not been enough to promote a strong recovery shifts the focus back onto fiscal policy. The value of impact fiscal multipliers and the size of hysteretic effects are key factors for assessing the effects of fiscal policy. There is widespread evidence that public expenditure multipliers are greater than one, especially when the economy is depressed. However, less is known about the importance of hysteresis effects. Using the linear play hysteresis operator, we find that hysteresis effects are important in the eurozone peripheral countries. Large fiscal impact multipliers combined with the presence of hysteresis implies that front-loaded austerity depresses the economy in the short run, and these effects may persist in the long run.

Keywords: employment; fiscal multipliers; hysteresis (search for similar items in EconPapers)
JEL-codes: E24 E62 J23 (search for similar items in EconPapers)
Date: 2020
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