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Government spending multipliers with the Real Cost channel

Published online by Cambridge University Press:  06 July 2023

He Nie Open the ORCID record for He Nie [Opens in a new window]
He Nie*
Affiliation:
Economics and Management School, Wuhan University, Wuhan, China
*
Email: [email protected]
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Abstract

In the benchmark New Keynesian (NK) model, I introduce the real cost channel to study government spending multipliers and provide simple Markov chain closed-form solutions. This model departs fundamentally from most previous interpretations of the nominal cost channel by flattening the NK Phillips Curve in liquidity traps. At the zero lower bound, I show analytically that following positive government spending shocks, the real cost channel can make inflation rise less than in a model without this channel. This then causes a smaller drop in real interest rates, resulting in a lower output gap multiplier. Finally, I confirm the robustness of the real cost channel’s effect on multipliers using extensions of two models.

Keywords

Government spending multipliersreal cost channelzero lower boundMarkov chainbounded rationality
Type
Articles
Information
Macroeconomic Dynamics , Volume 28 , Issue 4 , June 2024 , pp. 791 - 812
Copyright
© The Author(s), 2023. Published by Cambridge University Press

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Footnotes

*

I would like to thank my advisor, Jordan Roulleau-Pasdeloup, for his extensive comments. I would also thank Chang Liu, Paul Gabriel Jackson, Denis Tkachenko, Yujie Yang as well as participants in NUS GRS and the CEC-NTU Joint Online workshop 2021 for their comments and suggestions.

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