Fiscal Foresight and Information Flows

Abstract

News—or foresight—about future economic fundamentals can create rational expectations equilibria with non‐fundamental representations that pose substantial challenges to econometric efforts to recover the structural shocks to which economic agents react. Using tax policies as a leading example of foresight, simple theory makes transparent the economic behavior and information structures that generate non‐fundamental equilibria. Econometric analyses that fail to model foresight will obtain biased estimates of output multipliers for taxes; biases are quantitatively important when two canonical theoretical models are taken as data generating processes. Both the nature of equilibria and the inferences about the effects of anticipated tax changes hinge critically on hypothesized information flows. Different methods for extracting or hypothesizing the information flows are discussed and shown to be alternative techniques for resolving a non‐uniqueness problem endemic to moving average representations.

Macroeconomic effects of fiscal policy in the European Union, with particular reference to transition countries

“…While there are discussions on the severity of the consequences of the anticipation problem with quarterly data (e.g. Leeper, Walker and Yang, 2009;and Perotti, 2011), it is often argued that the use of annual data ameliorates the problem, since fiscal policy is less likely to be anticipated one year ahead than one or two quarters ahead (Perotti, 2008). In order to further mitigate the anticipation problem, we also include forward-looking variables such as prices and interest rates in the VAR.…”

Anticipation, learning and welfare: the case of distortionary taxation

“…All remaining errors are the responsibility of the authors. Leeper et al (2009) is another good example of empirical evidence of fiscal foresight. Therein they also demonstrate the challenges for econometricians that aim to quantify the impact of fiscal policy actions and at the same time account adequately for fiscal foresight.…”

Fiscal multipliers in a structural VEC model with mixed normal errors

“…If economic agents adjust their behavior based on anticipated future shocks, or news shocks, while standard VARs take into account current and past shocks only, analysis based on these may be misleading. Leeper et al (2013) show that foresight about changes in future variables leads to non-invertible moving average representations. Instead of the standard (causal) VAR respresentation, in this case the process has a noncausal representation.…”