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Journal ArticleDOI

Fiscal Policy in a Depressed Economy

22 Mar 2012-Vol. 2012, Iss: 1, pp 233-297

Abstract: In a depressed economy, with short-term nominal interest rates at their zero lower bound, ample cyclical unemployment, and excess capacity, increased government purchases would be neither offset by the monetary authority raising interest rates nor neutralized by supply-side bottlenecks Then even a small amount of hysteresis—even a small shadow cast on future potential output by the cyclical downturn—means, by simple arithmetic, that expansionary fiscal policy is likely to be self-financing Even if it is not, it is highly likely to pass the sensible benefit-cost test of raising the present value of future potential output Thus, at the zero bound, where the central bank cannot or will not but in any event does not perform its full role in stabilization policy, fiscal policy has the stabilization policy mission that others have convincingly argued it lacks in normal times Whereas many economists have assumed that the path of potential output is invariant to even a deep and prolonged downturn, the available evidence raises a strong fear that hysteresis is indeed a factor Although nothing in our analysis calls into question the importance of sustainable fiscal policies, it strongly suggests the need for caution regarding the pace of fiscal consolidation
Topics: Stabilization policy (61%), Fiscal policy (60%), Zero lower bound (56%), Interest rate (54%), Potential output (53%)
Citations
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Journal ArticleDOI
Philip R. Lane1Institutions (1)
Abstract: The origin and propagation of the European sovereign debt crisis can be attributed to the flawed original design of the euro. In particular, there was an incomplete understanding of the fragility of a monetary union under crisis conditions, especially in the absence of banking union and other European-level buffer mechanisms. Moreover, the inherent messiness involved in proposing and implementing incremental multicountry crisis management responses on the fly has been an important destabilizing factor throughout the crisis. After diagnosing the situation, we consider reforms that might improve the resilience of the euro area to future fiscal shocks.

761 citations


Posted Content
Eric T. Swanson1, John C. Williams2Institutions (2)
Abstract: The federal funds rate has been at the zero lower bound for over four years, since December 2008. According to standard macroeconomic models, this should have greatly reduced the effectiveness of monetary policy and increased the efficacy of fiscal policy. However, these models also imply that asset prices and private-sector decisions depend on the entire path of expected future short-term interest rates, not just the current level of the overnight rate. Thus, interest rates with a year or more to maturity are arguably more relevant for asset prices and the economy, and it is unclear to what extent those yields have been affected by the zero lower bound. In this paper, we measure the effects of the zero lower bound on interest rates of any maturity by comparing the sensitivity of those interest rates to macroeconomic news when short-term interest rates were very low to that during normal times. We find that yields on Treasury securities with a year or more to maturity were surprisingly responsive to news throughout 2008-10, suggesting that monetary and fiscal policy were likely to have been about as effective as usual during this period. Only beginning in late 2011 does the sensitivity of these yields to news fall closer to zero. We offer two explanations for our findings: First, until late 2011, market participants expected the funds rate to lift off from zero within about four quarters, minimizing the effects of the zero bound on medium- and longer-term yields. Second, the Fed's unconventional policy actions seem to have helped offset the effects of the zero bound on medium- and longer-term rates.Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

413 citations


Journal ArticleDOI
Valerie A. Ramey1, Sarah Zubairy2Institutions (2)
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408 citations


Journal ArticleDOI
Abstract: This paper uses an instrumental variable approach to study whether public debt has a causal effect on economic growth in a sample of OECD countries. The results are consistent with the existing literature that has found a negative correlation between debt and growth. However, the link between debt and growth disappears once we correct for endogeneity. We conduct a battery of robustness tests and show that our results are not affected by weak instrument problems and are robust to relaxing our exclusion restriction. Our finding that there is no evidence that public debt has a causal effect on economic growth is important in the light of the fact that the negative correlation between debt and growth is sometimes used to justify policies that assume that debt has a negative causal effect on economic growth.

396 citations


References
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Journal ArticleDOI
Mark Granovetter1Institutions (1)
Abstract: Analysis of social networks is suggested as a tool for linking micro and macro levels of sociological theory. The procedure is illustrated by elaboration of the macro implications of one aspect of small-scale interaction: the strength of dyadic ties. It is argued that the degree of overlap of two individuals' friendship networks varies directly with the strength of their tie to one another. The impact of this principle on diffusion of influence and information, mobility opportunity, and community organization is explored. Stress is laid on the cohesive power of weak ties. Most network models deal, implicitly, with strong ties, thus confining their applicability to small, well-defined groups. Emphasis on weak ties lends itself to discussion of relations between groups and to analysis of segments of social structure not easily defined in terms of primary groups.

35,312 citations


Book
01 Jan 1936-
Abstract: Part I. Introduction: 1. The general theory 2. The postulates of the classical economics 3. The principle of effective demand Part II. Definitions and Ideas: 4. The choice of units 5. Expectation as determining output and employment 6. The definition of income, saving and investment 7. The meaning of saving and investment further considered Part III. The Propensity to Consume: 8. The propensity to consume - i. The objective factors 9. The propensity to consume - ii. The subjective factors 10. The marginal propensity to consume and the multiplier Part IV. The Inducement to Invest: 11. The marginal efficiency of capital 12. The state of long-term expectation 13. The general theory of the rate of interest 14. The classical theory of the rate of interest 15. The psychological and business incentives to liquidity 16. Sundry observations on the nature of capital 17. The essential properties of interest and money 18. The general theory of employment re-stated Part V. Money-wages and Prices: 19. Changes in money-wages 20. The employment function 21. The theory of prices Part VI. Short Notes Suggested by the General Theory: 22. Notes on the trade cycle 23. Notes on mercantilism, the usury laws, stamped money and theories of under-consumption 24. Concluding notes on the social philosophy towards which the general theory might lead.

15,140 citations



Journal ArticleDOI
John B. Taylor1Institutions (1)
Abstract: This paper examines how recent econometric policy evaluation research on monetary policy rules can be applied in a practical policymaking environment. According to this research, good policy rules typically call for changes in the federal funds rate in response to changes in the price level or changes in real income. An objective of the paper is to preserve the concept of such a policy rule in a policy environment where it is practically impossible to follow mechanically any particular algebraic formula that describes the policy rule. The discussion centers around a hypothetical but representative policy rule much like that advocated in recent research. This rule closely approximates Federal Reserve policy during the past several years. Two case studies-German unification and the 1990 oil-price shock-that had a bearing on the operation of monetary policy in recent years are used to illustrate how such a policy rule might work in practice.

8,076 citations


"Fiscal Policy in a Depressed Econom..." refers background in this paper

  • ...If, as Taylor (2011) argues, fiscal stimulus enlarges government deficits but does not increase spending, then its benefits will not be realized....

    [...]


Journal ArticleDOI
John Maynard Keynes1Institutions (1)
Abstract: I. Comments on the four discussions in the previous issue of points in the General Theory, 209. — II. Certain definite points on which the writer diverges from previous theories, 212. — The theory of interest restated, 215. — Uncertainties and fluctuations of investment, 217. — III. Demand and Supply for output as a whole, 219. — The output of capital goods and of consumption, 221.

5,238 citations


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