Werner Roeger, Jan in 't Veld (European Commission)
(European Economy. Economic Papers. 426. September 2010.
Brussels. PDF. 39pp. Tab. Graph. Bibliogr. Free.)
KC-AI-10-426-EN-N ISBN: 978-92-79-14912-2 ISSN: 1725-3187
This paper uses a multi-region dynamic general equilibrium model with collateral constrained households and residential investment to examine the effectiveness of fiscal policy. The presence of credit constrained households makes fiscal policy a more powerful tool for short run stabilisation and reinforces the effects from monetary accommodation at the zero lower bound. There exists an asymmetry between fiscal multipliers of temporary stimulus and multipliers of permanent fiscal consolidation, with the latter being smaller. Fiscal consolidations are likely to have short term negative output effects, but GDP will be higher in the medium and long run. Designing consolidations in such a way as to maximise the long term growth benefits from tax reforms could help to minimise the short term costs.