Fiscal Multipliers and Open Economy spillovers in a Model with Labour Turnover Costs

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• Fiscal Multipliers and Open Economy spillovers in
  a Model with Labour Turnover Costs
• Discussion by Raffaela Giordano
• Banca dItalia Research Department
• Banco de España Conference Interactions between
  monetary and fiscal policies
• Madrid, 25-26 February 2010

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PLAN OF THE DISCUSSION

• General comments
• Brief description of the model and summary of
  main results
• More specific comments

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GENERAL COMMENTS (1)

• Very timely assessing the size of fiscal
  multipliers is crucial in current circumstances
• Part of recent and large debate on the effect of
  fiscal stimuli on economic activity (based on
  both empirical VAR-based and general equilibrium
  models)
• Main contribution splitting the analysis among
  different specific measures (in particular,
  addressing labour demand). This is done within an
  open economy model that allows to account for
  int.l spillovers
• Very relevant policy implications the setup
  allows to assess not only the size of the
  multipliers but also the relative efficacy (e.g.
  CBO, February 2010)

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GENERAL COMMENTS (2)

• In order to be able to do this
• Need (?) of a quite complicated framework
• It is difficult to evaluate the role of each
  assumption in delivering the results
• It is difficult to evaluate how the choice of
  calibration parameters (many!) affects the
  results
• Making sure that results (both in terms of size
  and ranking of multipliers) are robust to
  different assumptions and choices of the
  parameters is of course crucial in this kind of
  analyses

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MAIN INGREDIENTS OF THE MODEL

• Open economy (two countries currency area RoW)
• Labour market frictions (hiring and firing costs)
• Infinitely living agents maximize utility by
  allocating wealth between consumption, domestic
  and int.l bonds (wealth comes from labour income,
  profits, financial assets) distortionary taxes
  on consumption, wages, profits
• Monetary policy in currency area follows a rule
  for interest rate reacting to average inflation
  level in the area
• Fiscal policy is conducted independently by each
  country
• Temporary fiscal shocks financed with future lump
  sum taxes
• Fiscal packages may include (1) pure demand
  stimulus (i.e. temporary increase in gov.t
  expenditure), (2) consumption tax (i.e. VAT)
  cuts (3) wage income tax cuts (4) hiring
  subsidies (i.e. reduction in hiring costs) (5)
  short-term work (temporary financing part of
  workers wage)

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MAIN RESULTS

• The size of the multipliers depends on
• Crowding out effect coming from expected higher
  future taxes
• Labour market features
• International spillovers coming from
• effect on terms of trade and thus on export
  demand
• effect on CPI/PPI and thus on domestic wages
• Fiscal measures can be ranked as follows (in
  terms of efficacy)
• Hiring subsidy
• Income tax cuts
• Demand stimulus
• Short-time work
• Consumption tax cuts

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SPECIFIC COMMENTS (1)

• Given the relevance of the results, that allows
  us not only to assess what is the size of the
  multiplier but also to rank alternative fiscal
  packages in terms of efficacy, one would like to
  evaluate to what extent the estimated size and
  ranking depend on particular assumptions and on
  calibration parameters
• Look at them in turn

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SPECIFIC COMMENTS (2) THE SIZE

• Assumptions
• The model accounts for several relevant real
  world features (open economy, frictions, wage
  bargaining, ) there is one important missing
  feature from the picture
• distortionary future taxation
• Also, it is not clear the transmission mechanism
  through which fiscal expansions affect the
  interest rate and thus the real economy
• Introducing distortionary taxation to finance
  fiscal stimuli would definitely reduce the size
  of the multiplier (via larger crowding out
  effect)
• What about the other?

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SPECIFIC COMMENTS (3) THE SIZE

• Calibration parameters
• The size of international spillovers crucially
  depends on ? (elasticity of substitution between
  home and foreign goods) and ? (home bias in
  consumption)
• The labour market frictions are measured by
  firing (f) and hiring (h) costs
• Other labour mkt features (unemployment benefits,
  b, cost for firm under disagreement, s, workers
  bargaining power) matter
• Of course, as ? ? and ? ?, int.l spillovers ? and
  multiplier ?
• as f and h ? , multiplier ?
• as b and s (and workers b.p.) ? , multiplier ?
• and, what about the parametrization for
  foreign country?

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SPECIFIC COMMENTS (4) THE RANKING

• Assumptions
• Lump sum taxation maybe irrelevant for ranking
• Calibration parameters
• As labour market frictions ? , relative
  effectiveness of supply side stimuli should
  decrease (also as workers bargaining power ?, )
• What about the parameters affecting the
  international spillovers? maybe irrelevant for
  ranking
• A robustness check to alternative calibrations
  would be instructive!

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MINOR COMMENTS

• Monetary policy is not really suitable to address
  crises (i) the parameter b?1.5 is not
  calibrated on crises (ii) policy rate is not
  allowed to be constrained by zero lower bound
  (Christiano et al. 2009 Woodford, 2010) ? size
  of multiplier may be underestimated
• Monetary policy reacting to average inflation
  level in the area how does this rationalize the
  behaviour of the stability pact?
• Weird arbitrage condition between nat.l and int.l
  interest rates ? intermediation costs when
  investing in international portfolio. Why? How
  does this affect the results?
• Government expenditure just enters in the
  resource constraints (with a minus sign) ? pure
  waste (?) ? fiscal stimulus should be described
  as a reduction in g
• Check for description of fiscal packages
  adopted in euro area countries! For Italy, look
  at
• http//www.bancaditalia.it/pubblicazioni/econo/b
  ollec/2009/bolleco58/en_bollec54

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SUMMING UP

• Assessing the effectiveness of fiscal measures as
  a means of increasing output and employment is
  crucial, above all in times of crisis
• The size of fiscal multipliers typically depends
  on the presence (and magnitude) of delays in
  adjustment of prices or wages and more generally
  of frictions, and on monetary policy reaction
• My impression is that in this paper the
  effectiveness of fiscal policy tends to be
  over-estimated in normal times maybe
  under-estimated during crises
• Regardless quantitative assessments, the paper
  has the merit to explicitly consider labour
  market measures and, more generally, to highlight
  the usefulness of concentrating efforts where
  distortions are highest