DP12016 The effects of Fiscal Consolidations: Theory and Evidence

Author(s): Alberto Alesina, Omar Barbiero, Carlo A. Favero, Francesco Giavazzi, Matteo Paradisi
Publication Date: May 2017
Keyword(s): fiscal consolidation plans, Fiscal multipliers
JEL(s): E62
Programme Areas: International Macroeconomics and Finance
Link to this Page: www.cepr.org/active/publications/discussion_papers/dp.php?dpno=12016

We investigate the macroeconomic effects of fiscal consolidations based upon government spending cuts, transfers cuts and tax hikes. We extend a narrative dataset of fiscal consolidations, finding details on over 3500 measures. Government spending and transfer cuts are much less harmful than tax hikes. Standard New Keynesian models match our results when fiscal shocks are persistent. Wealth effects on aggregate demand mitigates the impact of a persistent spending cut. Static distortions caused by persistent tax hikes cause larger shifts in aggregate supply under sticky prices. This channel explains different sizes of multipliers found in fiscal stimuli compared to consolidation plans.