The golden rule of public finance under active monetary stance: endogenous setting for a developing economy
-
DOIhttp://dx.doi.org/10.21511/imfi.17(2).2020.17
-
Article InfoVolume 17 2020, Issue #2, pp. 216-230
- Cited by
- 1258 Views
-
125 Downloads
This work is licensed under a
Creative Commons Attribution 4.0 International License
The paper aims to verify the introduction of the golden rule of public finance under an active monetary stance for a developing economy using a dynamic stochastic general equilibrium model. Besides the two rigidities, namely the deep habit formation and Calvo-style price stickiness, the model structure incorporates real money holdings and welfare-enhancing government purchases in the utility-generating function and a modified Taylor rule. The simulation results have validated the visible crowding-out of private consumption and investment in the short run and a positive impact of the productive government spending on long-run growth, but with some important caveats. In the case of a developing economy that usually has low efficiency and high returns to public capital, the given factors prove significant in addressing the study issue. The results are robust in terms of the structure of utility-generating function, a relatively high share of liquidity-constrained households, and a degree of price stickiness. Moreover, to offset the debt accumulation as a result of increased public investment financing by persistent output growth, in the long run, the central bank should not only rely on response to the fluctuation of inflation and output but also account for a move of public debt.
- Keywords
-
JEL Classification (Paper profile tab)O41, H54, E63, E13
-
References36
-
Tables1
-
Figures2
-
- Figure 1. The response of key macro variables to public spending shock
- Figure 2. The response of the output and public debt to public spending shock: sensitivity to parameter ρB
-
- Table 1. Calibrated parameters
-
- Agénor, P-R., & Yilmaz, S. D. (2011). The tyranny of rules: fiscal discipline, productive spending, and growth in a perfect foresight model. Journal of Economic Policy Reform, 14(1), 69-99.
- Antunes, A., & Ercolani, V. (2019). Public debt expansions and the dynamics of the household borrowing constraint. Review of Economic Dynamics, 37, 1-32.
- Asimakopoulos, S., Lorusso, M., & Pieroni, L. (2016). Can public spending boost private consumption? (CEERP Working Papers, 5).
- Auteri, M., & Costantini, M. (2010). A panel cointegration approach to estimating substitution elasticities in consumption. Economic Modelling, 27(3), 782-787.
- Barro, R. J. (1990). Government spending in a simple model of economic growth. Journal of Political Economy, 98(S5), 103-125.
- Christiano, L. J., & Eichenbaum, M. (1992). Current real-business-cycle theories and aggregate labor-market fluctuations. The American Economic Review, 82(3), 430-450.
- Dabla-Norris, E., Brumby, J., Kyobe, A., Mills, Z., & Papageorgiou, C. (2011). Investing in public investment: an index of public investment efficiency (IMF Working Papers, WP/1/37).
- Davig, T., & Leeper, E. M. (2011). Monetary-fiscal policy interactions and fiscal stimulus. European Economic Review, 55(2), 211-227.
- Dawood, T. C., & Francois, J. N. (2018). Substitution between private and government consumption in African economies. Economic Modelling, 73, 129-139.
- Ercolani, V., & Azevedo, J. V. (2018). How can the government spending multiplier be small at the zero lower bound? (Bank of Italy Temi di Discussione (Working Papers, 1174.
- Evans, P., & Karras, G. (1994). Are government activities productive? Evidence from a panel of U.S. States. Review of Economic and Statistics, 76(1), 111.
- Gali, J., Lopez-Salido, J. D., & Valles, J. (2007). Understanding the effects of government spending on consumption. Journal of the European Economic Association, 5(1), 227-270.
- Ganelli, G. (2003). Useful government spending, direct crowding-out and fiscal policy interdependence. Journal of International Money and Finance, 22(1), 87-103.
- Ghosh, S., & Nolan, C. (2007). The impact of simple fiscal rules in growth. Models with public goods and congestion. Manchester School, 75(5), 634-651.
- Glomm, G., & Ravikumar, B. (1997). Productive government expenditures and long-run growth. Journal of Economic Dynamics and Control, 21(1), 183-204.
- Greiner, A., & Semmler, W. (2000). Endogenous growth, government debt and budgetary regimes. Journal of Macroeconomics, 22(3), 363-384.
- Groneck, M. (2011). The golden rule of public finance and the composition of government expenditures: a growth and welfare analysis. Journal of Economic Policy Reform, 14(4), 273-294.
- Havranek, T., Rusnak, M., & Sokolova, A. (2017). Habit formation in consumption: a meta-analysis. European Economic Review, 95, 142-167.
- Kellermann, K. (2007). Debt financing of public investment: on a popular misinterpretation of ‘the golden rule of public sector borrowing’. European Journal of Political Economy, 23, 1088-1104.
- Krajewski, P. (2017). Heterogeneity of households and the effects of fiscal policy in the CEE countries. Romanian Journal of Economic Forecasting, XX(2), 79-93.
- Kumhof, M., Nunes, R., & Yakadina, I. (2010). Simple monetary rules under fiscal dominance. Journal of Money, Credit and Banking, 42(1), 63-92.
- Kwan, Y. K. (2006). The direct substitution between government and private consumption in East Asia (NBER Working Paper, 12431).
- Laboure, M., & Taugourdeau, E. (2018). Does government expenditure matter for economic growth? Global Policy, 9(2), 203-215.
- Leeper, E. M., Walker, T. B., & Yang, S-C. S. (2010). Government investment and fiscal stimulus, Journal of Monetary Economics, 57(8), 1000-1012.
- Malik, A. (2013). The effects of fiscal spending shocks on the performance of simple monetary policy rules. Economic Modelling, 30(1), 643-662.
- Minea, A., & Villieu, P. (2009). Borrowing to finance public investment? The ‘golden rule of public finance’ reconsidered in a growth setting. Fiscal Studies, 30(1), 103-133.
- Mintz, J. M., & Smart, M. (2006). Incentives for public investment under fiscal rules (Policy Research Working Paper, 3860).
- Pereira, A., & de Frutos, R. (1999). Public capital accumulation and private sector performance. Journal of Urban Economics, 46(2), 300-322.
- Ravn, M., Schmitt-Grohe, S., & Uribe, M. (2006). Deep habits. Review of Economic Studies, 73(1), 195-218.
- Shahid, M., Qayyum, A., & Shahid Malik, W. (2016). Fiscal and monetary policy interactions in Pakistan using a dynamic stochastic general equilibrium framework. Research Journal Social Sciences, 6(1), 1-29.
- Shen, W., Yang, S-C. S., & Zanna, L-F. (2018). Government spending effects in low-income countries. Journal of Development Economics, 133, 201-219.
- Truger, A. (2015). Implementing the golden rule for public investment in Europe: safeguarding public investment and supporting the recovery (WWW for Europe Policy Papers, 22).
- Turnovsky, S. J. (2004). The transitional dynamics of fiscal policy: long-run capital accumulation and growth. Journal of Money, Credit and Banking, 36(5), 883-910.
- Warner, A. M. (2014). Public investment as an engine of growth (IMF Working Papers, WP/14/148).
- Yakita, A. (2008). Sustainability of public debt, public capital formation, and endogenous growth in an overlapping generations setting. Journal of Public Economics, 92, 897-914.
- Zeyneloglu, I. (2018). Fiscal policy effectiveness and the golden rule of public finance. Central Bank Review, 18(3), 85-93.