The Effects of Government Spending Under Limited Capital Mobility

May 1, 2012

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Wenyi Shen, and Susan S. Yang The Effects of Government Spending Under Limited Capital Mobility, (USA: International Monetary Fund, 2012) accessed September 20, 2024

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.

Subject: Balance of payments, Capital account, Consumption, Expenditure, Fiscal multipliers, Fiscal policy, Foreign exchange, National accounts, Public debt, Real exchange rates

Keywords: Capital account, Caribbean, Central bank, Consumption, Developing countries, Exchange rate regime, External financing, Fiscal multipliers, Fiscal policy, Global, Government spending, Government spending effect, Government spending policy, Imperfect capital mobility, Nominal exchange rate, Real exchange rates, Real interest rate, Small-open DSGE models, WP

Publication Details

Pages:

41
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2012/129
Stock No:

WPIEA2012129
ISBN:

9781475503661
ISSN:

1018-5941

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