Hysteresis and Fiscal Policy

Philipp Engler and Juha Tervala

No 1631, Discussion Papers of DIW Berlin from DIW Berlin, German Institute for Economic Research

Abstract: Empirical studies support the hysteresis hypothesis that recessions have a permanent effect on the level of output. We analyze the implications of hysteresis for fiscal policy in a DSGE model. We assume a simple learning-by-doing mechanism where demand-driven changes in employment can affect the level of productivity permanently, leading to hysteresis in output. We show that the fiscal output multiplier is much larger in the presence of hysteresis and that the welfare multiplier of fiscal policy - the consumption equivalent change in welfare for one dollar change in public spending - is positive (negative) in the presence (absence) of hysteresis. The main bene.t of accommodative fiscal policy in the presence of hysteresis is to diminish the damage of a recession to the long-term level of productivity and, thus, output.

Keywords: Fiscal policy; hysteresis; learning by doing; welfare (search for similar items in EconPapers)
JEL-codes: E62 F41 F44 (search for similar items in EconPapers)
Pages: 32 p.
Date: 2016
New Economics Papers: this item is included in nep-dge, nep-mac, nep-opm and nep-pbe
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

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Journal Article: Hysteresis and fiscal policy (2018)
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