Fiscal Policy Stabilization: Purchases or Transfers?
by Neil R. Mehrotra
Federal Reserve Bank of Minneapolis
Both government purchases and transfers figure prominently in the use of fiscal policy for counteracting recessions.
However, existing representative-agent models including the neoclassical and New Keynesian benchmark rule out transfers
by assumption. This paper explains the factors that determine the size of fiscal multipliers in a variant of the Cúrdia and
Woodford (2010) model where transfers now matter. I establish an equivalence between deficit-financed fiscal policy and
balanced-budget fiscal policy with transfers. Absent wealth effects on labor supply, the transfer multiplier is zero when
prices are flexible, and transfers are redundant to monetary policy when prices are sticky. The transfer multiplier is most
relevant at the zero lower bound where the size of the multiplier is increasing in the debt elasticity of the credit spread and fiscal
policy can influence the duration of a zero lower bound episode. These results are quantitatively unchanged after incorporating
wealth effects on labor supply.
JEL Code: E62.
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