• Open Access

Public consumption over the business cycle

Authors

  • Rüdiger Bachmann,

    1. RWTH Aachen University; ruediger.bachmann@rwth-aachen.de
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  • Jinhui H. Bai

    1. Georgetown University; jb543@georgetown.edu
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    • We are grateful to conference/seminar participants at the 2011 Cologne Workshop on Macroeconomics, the George Washington University, the IIES at Stockholm University, the 2011 Midwest Macro Meeting, the 2011 SED meeting (Ghent), and the University of Pennsylvania as well as Per Krusell, a co-editor, and three anonymous referees for their comments. We would also like to thank Liz Accetta from the Census Bureau for providing us with the historical data of the Annual Survey of State Government Finances and Josh Montes for his excellent research assistance. The usual disclaimer applies.


Abstract

What fraction of the business cycle volatility of government purchases is accounted for as endogenous reactions to overall macroeconomic conditions? We answer this question in the framework of a neoclassical representative household model where the provision of a public consumption good is decided upon endogenously and in a time-consistent fashion. A simple version of such a model with aggregate productivity as the sole driving force fails to match important features of the business cycle dynamics of public consumption, which comes out as not as volatile and persistent as in the data and too synchronized with the cycle. We add implementation lags and implementation costs in the budgeting process to the model, plus taste shocks for public consumption relative to private consumption, and achieve a better fit to the data. All these ingredients are essential to improve the fit. In our baseline specification 50% of the variance of public consumption is driven by aggregate productivity shocks.

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