The 'Expansionary Fiscal Contraction' Hypothesis: A Neo-Keynesian Analysis

Frank Barry and Michael Devereux

Oxford Economic Papers, 1995, vol. 47, issue 2, 249-64

Abstract: It has recently been argued that several fiscal contractions can, through their impact on expectations, lead to growth in consumption, investment, and employment. Since such contractions typically occur because adjustment has been delayed due to fear of aggravating unemployment, the authors examine the hypothesis in a model with wage/price rigidities. The New Classical features of the model, however, allow expectational effects to be taken fully into account. While consumption and investment may rise, the authors find that employment is in all cases likely to fall; this leads them to believe that the so-called 'German view' is overoptimistic. Copyright 1995 by Royal Economic Society.

Date: 1995
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