NBER WORKING PAPER SERIES

AN EMPIRICAL CHARACTERIZATION OF THE DYNAMIC EFFECTS OF CHANGES IN GOVERNMENT SPENDING AND TAXES ON OUTPUT Olivier Blanchard Roberto Perotti Working Paper 7269 http://www.nber.org/papers/w7269

NATIONAL BUREAU OF ECONOMIC RESEARCH 1050 Massachusetts Avenue Cambridge, MA 02138 July 1999

The views expressed herein are those of the authors and not necessarily those of the National Bureau of Economic Research. © 1999 by Olivier Blanchard and Roberto Perotti. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that full credit, including © notice, is given to the source.

An Empirical Characterization of the Dynamic Effects of Changes in Government Spending and Taxes on Output Olivier Blanchard and Roberto Perotti NBER Working Paper No. 7269 July 1999 JEL No. E62, E32 ABSTRACT This paper characterizes the dynamic effects of shocks in government spending and taxes on economic activity in the United States in the post-war period. It does so by using a mixed structural VAR/event study approach. Identification is achieved by using institutional information about the tax and transfer systems and the timing of tax collections to identify the automatic response of taxes and spending to activity, and, by implication, to infer fiscal shocks. The results consistently show positive government spending shocks as having a positive effect on output, and positive tax shocks as having a negative effect. The multipliers for both spending and tax shocks are typically small. Turning to the effects of taxes and spending on the components of GDP, one of the results has a distinctly non-standard flavor: Both increases in taxes and increases in government spending have a strong negative effect on investment spending.

Olivier Blanchard Department of Economics E52-373 MIT Memorial Drive Cambridge, MA 02139 and NBER blanchar@mit.edu

Roberto Perotti Department of Economics Columbia