Please use this identifier to cite or link to this item: http://hdl.handle.net/10419/89237
Authors: 
Bonam, Dennis
Lukkezen, Jasper
Year of Publication: 
2013
Series/Report no.: 
Tinbergen Institute Discussion Paper 13-212/VI
Abstract: 
Conventional wisdom teaches that the output response upon a fiscal expansion is higher under fixed than floating exchange rates for a small open economy. We analyse the effects of fiscal expansions using a New Keynesian model and find that this result reverses in times of sovereign default risk. Under a float, a fiscal expansion is followed by an exchange rate depreciation, which stimulates exports; under a peg, only the adverse effects of sovereign risk on private credit conditions and consumption remain. When these adverse effects are large, we show that a transient fiscal contraction may bring about positive output responses, yet only in the short run.
Subjects: 
Fiscal policy
government spending
exchange rate regime
sovereign risk
New Keynesian model
expansionary fiscal consolidation
JEL: 
E32
E52
E62
Document Type: 
Working Paper

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