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State Dependence of Fiscal Multipliers: The Source of Fluctuations Matters

Author

Listed:
  • Mishel Ghassibe

    (National Bank of Ukraine
    University of Oxford)

  • Francesco Zanetti

    (University of Oxford)

Abstract
We develop a general theory of state-dependent €scal multipliers in a framework featuring interaction between two empirically relevant goods market frictions: idle productive capacity and unsatis€ed demand. Our key novel fi€nding is that the source of economic ƒuctuations determines the cyclicality of €scal multipliers. Policies that stimulate aggregate demand, such as government spending and consumption tax cuts, have multipliers that are large in demanddriven recessions, but small and possibly negative in supply-driven downturns. On the other hand, policies that boost aggregate supply, such as cuts in taxes on labor income and €rms’ payroll and sales, are ine‚ective in demanddriven recessions, but powerful if the downturn is driven by supply factors. Spending austerity, implemented by a reduction in government consumption, can be the policy with the largest multiplier in severe supply-side recessions and demand-driven booms, provided elasticities of labor demand and supply are su ciently low. We obtain modelfree empirical support for our theoretical predictions by using a novel econometric speci€cation that allows us to estimate spending and tax cut multipliers in recessionary and expansionary episodes, conditional on those being either demand- or supply-driven.

Suggested Citation

  • Mishel Ghassibe & Francesco Zanetti, 2021. "State Dependence of Fiscal Multipliers: The Source of Fluctuations Matters," Working Papers 01/2021, National Bank of Ukraine.
    • Handle: RePEc:ukb:wpaper:01/2021
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    More about this item

    Keywords

    business cycle; €scal multipliers; state dependence; search-and-matching in the goods market;
    All these keywords.

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • J64 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Unemployment: Models, Duration, Incidence, and Job Search

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