The views expressed in this article do not necessarily reflect those of the Federal Reserve Bank of New York or the Federal Reserve System. We thank James Costain and Bartosz Mackowiak for comments.
Deficits, Public Debt Dynamics and Tax and Spending Multipliers
Version of Record online: 26 FEB 2013
© 2013 The Author(s). The Economic Journal © 2013 Royal Economic Society
The Economic Journal
Volume 123, Issue 566, pages F133–F163, February 2013
How to Cite
Denes, M., Eggertsson, G. B. and Gilbukh, S. (2013), Deficits, Public Debt Dynamics and Tax and Spending Multipliers. The Economic Journal, 123: F133–F163. doi: 10.1111/ecoj.12014
- Issue online: 26 FEB 2013
- Version of Record online: 26 FEB 2013
- Accepted manuscript online: 31 OCT 2012 12:00AM EST
Cutting government spending can increase the budget deficit at zero interest rates according to a standard New Keynesian model, calibrated with Bayesian methods. Similarly, increasing sales taxes can increase the budget deficit rather than reducing it. Both results suggest limitations of ‘austerity measures’. At zero interest rates, running budget deficits can be either expansionary or contractionary depending on how they interact with expectations about long-run taxes and spending. The effect of fiscal policy action is thus highly dependent on the policy regime. A successful stimulus, therefore, needs to specify how the budget is managed not only in the short but also medium and long run.