The effects of discretionary fiscal policy on macroeconomic aggregates

Abstract

The evidence on the practice and effects of discretionary fiscal policy, particularly in the context of recent efforts to stimulate the economy, is reviewed where two main conclusions are drawn. First, policy interventions have increased in this decade predating the 2009 stimulus. Second, despite huge economic literature on the topic, the state of theory and evidence is not as "shovel ready" as one would like. Although consumption and investment clearly respond to tax incentives and structural vector auto-regressions show that lower taxes and higher government purchases can boost output, it is difficult to apply the findings in the current context, in part because multipliers and policy lags are likely to vary with economic conditions. This paper considers theoretical predictions and recent empirical Vector Autoregression (VAR) evidence on the short-run effects of discretionary fiscal policy on macroeconomic aggregates. JEL Classifications: E62, H30