DP14544 Decomposing the Fiscal Multiplier

Author(s): James Cloyne, Óscar Jordá, Alan M. Taylor
Publication Date: March 2020
Keyword(s): balance, Blinder-Oaxaca decomposition, Fiscal policy, identification, interest rates, local projections, State-Dependence
JEL(s): C54, C99, E32, E62, H20, H5, N10
Programme Areas: Economic History, International Macroeconomics and Finance, Monetary Economics and Fluctuations
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=14544

Unusual circumstances often coincide with unusual fiscal policy actions. Much attention has been paid to estimates of how fiscal policy affects the macroeconomy, but these are typically average treatment effects. In practice, the fiscal "multiplier" at any point in time depends on the monetary policy response. Using the IMF fiscal consolidations dataset for identification and a new decomposition-based approach, we show how to evaluate these monetary-fiscal effects. In the data, the fiscal multiplier varies considerably with monetary policy: it can be zero, or as large as 2 depending on the monetary offset. We show how to decompose the typical macro impulse response function into (1) the direct effect of the intervention on the outcome; (2) the indirect effect due to changes in how other covariates affect the outcome when there is an intervention; and (3) a composition effect due to differences in covariates between treated and control subpopulations. This Blinder-Oaxaca-type decomposition provides convenient way to evaluate the effects of policy, state-dependence, and balance conditions for identification.