Productive Government Spending, Welfare and Exchange Rate Dynamics

Juha Tervala
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Juha Tervala: Department of Economics, University of Helsinki, Finland

Financial Theory and Practice, 2008, vol. 32, issue 2, 97-114

Abstract: This study analyses the consequences of productive government spending on the international transmission of fiscal policy. A standard result in the new open economy macroeconomics literature is that a fiscal shock depreciates the exchange rate. I demonstrate that the response of the exchange rate depends on the productivity of government spending. If productivity is sufficiently high, a fiscal shock appreciates the exchange rate. It is also shown that the introduction of productive government spending increases both domestic and foreign welfare, when compared with the case where government spending is wasted. This is because productive government spending has a positive effect on private consumption in both countries in a two country NOEM model.

Keywords: New open economy macroeconomics; fiscal policy; international policy transmission (search for similar items in EconPapers)
JEL-codes: E62 F30 F41 (search for similar items in EconPapers)
Date: 2008
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Persistent link: https://EconPapers.repec.org/RePEc:ipf:finteo:v:32:y:2008:i:2:p:97-114

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