A Pitfall with Estimated DSGE-Based Government Spending Multipliers

Abstract

This paper examines issues related to the estimation of the government spending multiplier (GSM) in a DSGE context. We stress a source of bias in the GSM arising from the combination of endogenous government expenditures and Edgeworth complementarity between private consumption and government expenditures. Due to cross-equation restrictions, omitting the endogenous component of government policy at the estimation stage would lead an econometrician to underestimate the degree of Edgeworth complementarity and, consequently, the long-run GSM. An estimated version of our model with US postwar data shows that this bias matters quantitatively. The results are robust to a number of perturbations. (JEL E13, E23, E32, E62, H50)

Propagation Mechanisms for Government Spending Shocks: A Bayesian Comparison

“…Notably, both Fève et al. () and Kormilitsina () provide evidence that government spending responds to output in the same quarter and show that assuming predetermined government spending can bias the consumption response to a spending shock.…”

The Output and Welfare Effects of Government Spending Shocks Over the Business Cycle

“…The lack of joint identification between and ν is also discussed in Bouakez and Rebei () and Féve et al. (). We therefore calibrate , which is the same value assumed by Bouakez and Rebei (), and estimate ν.…”

“…As we discuss further in Online Appendix C, φ G and ν are jointly poorly identified, at least locally. The lack of joint identification between φ G and ν is also discussed in Bouakez and Rebei (2007) and Féve et al (2013). We therefore calibrate φ G = 0.8, which is the same value assumed by Bouakez and Rebei (2007), and estimate ν.…”

“…Féve et al. () argue that the automatic stabilizer component is potentially important when measuring multipliers. The results do not differ substantially from our baseline analysis and are available in Online Appendix E.…”

“…We also consider an extension in which there are "automatic stabilizer" components to both categories of government spending. Féve et al (2013) argue that the automatic stabilizer component is potentially important when measuring multipliers. The results do not differ substantially from our baseline analysis and are available in Online Appendix E.…”