Fiscal Policy Beyond Public employment

We show that, in a financially constrained environment, relative to an active fiscal--passive monetary policy regime, an active monetary--passive fiscal policy amplifies technology shocks, neutralizes financial shocks, and mitigates the expansionary effects of fiscal shocks through a ``debt deflation" and ``real interest rate" channels. Several features of the data suggest that, during the last decade, the United States implemented an active fiscal--passive monetary policy, while the Euro area implemented an active monetary--passive fiscal policy, implying that the distinct post-crisis dynamics of the United States and the Euro area can be rationalized through different fiscal and monetary policy mixes.

JEL Classification: E62, E63, E32, E44. 

Keywords: Fiscal policy, monetary policy, monetary-fiscal policy interactions, financial frictions

Over the past 40 years public investment has declined in most developed countries. This paper argues that such pattern can be the consequence of investment-specific technological progress. Public investment, mostly on infrastructures, experienced a slower rate of innovation than private investment, composed primarily by equipment and software. Within a simple neoclassical growth model with a public sector, we show that such type of technological progress reduces the incentives to invest in public capital, and accounts for 80 percent of the observed decline. The implied co-movements of other fiscal instruments are also consistent with observed trends.

JEL Classification:  E62; H21; H54.

Keywords:   Profit  tax;  Labor  tax,  Public  Capital;  Public  Investment;  Investment-specific technological change.