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Title: Multilateral economic cooperation and the international transmission of fiscal policy

Author(s): Giancarlo Corsetti and Gernot Müller

Publication Date: January 2012

Keyword(s): Financial Crisis, Fiscal Policy Coordination, Government spending and Spillover effects

Programme Area(s): International Macroeconomics

Abstract: During the global financial crisis 2007--2009 fiscal policy was widely used as a stabilization tool. Policymakers allowed a large build-up of public debt resulting from both automatic and discretionary expansionary measures. At the same time, calls for policy coordination stressed that international spillovers of fiscal policy might be sizeable. We reconsider the case for fiscal coordination by providing new evidence on the cross-border effects of discretionary fiscal measures. We rely on a vector autoregression model as well as on a quantitative business cycle model. We find that i) large spillover effects cannot be ruled out and, in contrast to conventional wisdom, ii) financial factors rather than trade flows lie at the heart of the international transmission mechanism. We discuss the implications of these results for policy coordination when markets price sovereign default risk, and put pressure on governments for implementing budget consolidation measures.

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Bibliographic Reference

Corsetti, G and Müller, G. 2012. 'Multilateral economic cooperation and the international transmission of fiscal policy'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=8748