The Effects of Government Spending Under Limited Capital Mobility

Author/Editor: Wenyi Shen ; Shu-Chun S. Yang
Publication Date: May 01, 2012
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Disclaimer: This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate
Summary: This paper studies the effects of government spending under limited international capital mobility, as featured by most developing countries. While external financing of government debt mitigates the crowding-out effect, it generates real appreciation, which contracts traded output and lowers the fiscal multiplier in the short run. The decline of the multiplier is larger when facing debt-elastic country risk premia. Also, government spending is more expansionary with more home bias in government purchases, more sectoral rigidities, and a less flexible exchange rate. Whether the twin-deficit hypothesis holds depends crucially on the extent to which government deficits are financed externally.
Series: Working Paper No. 12/129
Subject(s): Budget deficits | Developing countries | Economic models | External borrowing | Fiscal policy | Government expenditures | Reserve management policy

Author's Keyword(s): Fiscal policy | fiscal multipliers | small-open DSGE models | developing countries | imperfect capital mobility
Publication Date: May 01, 2012
ISBN/ISSN: 9781475503661/1018-5941 Format: Paper
Stock No: WPIEA2012129 Pages: 41
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