Discussion Paper Details

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Title: Spending-based austerity measures and their effects on output and unemployment

Author(s): Dimitrios Bermperoglu, Evi Pappa and Eugenia Vella

Publication Date: March 2013

Keyword(s): austerity, NK model, output and unemployment multipliers, search and matching frictions, sign restrictions and VARs

Programme Area(s): International Macroeconomics and Public Economics

Abstract: We compare the output and unemployment effects of fiscal adjustments in different types of government outlays in the US, Canada, Japan, and the UK. We identify shocks in government consumption, investment, vacancies and government wages in a SVAR using sign restrictions extracted from a New-Keynesian model with matching frictions in the private and public sector, endogenous labor force participation and heterogeneous unemployed jobseekers. Government vacancy cuts are associated with the highest output losses and the lowest gains in terms of deficit reductions. This is because such shocks generate an additional wealth effect: they induce a fall in the number of working members of the household that leads to a fall in private consumption and investment demand. On the other hand, government wage cuts are the least destructive device for cutting the budget.

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Bibliographic Reference

Bermperoglu, D, Pappa, E and Vella, E. 2013. 'Spending-based austerity measures and their effects on output and unemployment'. London, Centre for Economic Policy Research.