Borrow and Adjust: Fiscal Policy and Sectoral Adjustment in an Open Economy

Erling Steigum and Øystein Thøgersen

International Economic Review, 2003, vol. 44, issue 2, 699-724

Abstract: Should the government run fiscal deficits in response to an adverse external shock that warrants transfer of resources from production of nontraded to traded goods? This article considers normative fiscal policy implications of sectoral adjustment costs in a two-sector model with overlapping generations. Fiscal deficits benefit present generations by depleting foreign assets and slowing down the adjustment process. We show that despite no nominal rigidities, temporary fiscal deficits increase social welfare if adjustment costs prevent immediate sectoral reallocation of inputs. If there are no adjustment costs, the case for fiscal deficits vanishes. Copyright 2003 By The Economics Department Of The University Of Pennsylvania And Osaka University Institute Of Social And Economic Research Association.

Date: 2003
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Related works:
Working Paper: Borrow and Adjust: Fiscal Policy and Sectoral Adjustment in an Open Economy (2001)
Working Paper: Borrow and Adjust. Fiscal Policy and Sectoral Adjustment in an Open Economy (1998)
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