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Fiscal Stabilization and the Credibility of the U.S. Budget Sequestration Spending Austerity

Carlos Zarazaga and Ruiyang Hu
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Carlos Zarazaga: Federal Reserve Bank of Dallas
Ruiyang Hu: Southern Methodist University

No 250, 2017 Meeting Papers from Society for Economic Dynamics

Abstract: Fiscal imbalances predating the Great Recession but aggravated by it prompted the U.S. Congress to enact in 2011 legislation that, in the absence of other measures, would trigger two years later a so-called "budget sequestration" procedure that implied reducing government discretionary spending to unprecedented low levels over the following decade. For that reason, economic agents may not have expected this “fiscal stabilization measure of last resort” to be sustainable when it was put into effect in 2013 as scheduled. This is exactly the issue this paper set out to explore, on the grounds that sizing up the expectations that economic agents had about the budget sequestration can provide powerful insights on how fiscal stabilization is likely to proceed in the U.S. going forward. The paper makes inferences about the credibility enjoyed by the budget sequestration with an adapted version of the Business Cycle Accounting approach, originally developed for other purposes. The main finding is that the evidence favors a scenario in which spending cuts are half the size of those actually implied by the sequester. The paper takes this result as an indication that the U.S. is unlikely to address its unresolved fiscal imbalances with just austerity in discretionary spending, an interpretation consistent with existing literature that traces the seemingly anomalous behavior of economic variables during the Great Recession and its aftermath to alternative fiscal stabilization mechanisms.

Date: 2017
New Economics Papers: this item is included in nep-dge and nep-mac
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