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The role of automatic stabilizers in the U.S.business cycle

McKay, Alisdair and Reis, Ricardo (2016) The role of automatic stabilizers in the U.S.business cycle. Econometrica, 84 (1). pp. 141-194. ISSN 0012-9682

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Identification Number: 10.3982/ECTA11574

Abstract

Most countries have automatic rules in their tax-and-transfer systems that are partly intended to stabilize economic fluctuations. This paper measures their effect on the dynamics of the business cycle. We put forward a model that merges the standard incomplete-markets model of consumption and inequality with the new Keynesian model of nominal rigidities and business cycles, and that includes most of the main potential stabilizers in the U.S. data and the theoretical channels by which they may work. We find that the conventional argument that stabilizing disposable income will stabilize aggregate demand plays a negligible role in the dynamics of the business cycle, whereas tax-and-transfer programs that affect inequality and social insurance can have a larger effect on aggregate volatility. However, as currently designed, the set of stabilizers in place in the U.S. has had little effect on the volatility of aggregate output fluctuations or on their welfare costs despite stabilizing aggregate consumption. The stabilizers have a more important role when monetary policy is constrained by the zero lower bound, and they affect welfare significantly through the provision of social insurance.

Item Type: Article
Official URL: http://onlinelibrary.wiley.com/journal/10.1111/(IS...
Additional Information: © 2015 The Econometric Society
Divisions: Economics
Subjects: H Social Sciences > HC Economic History and Conditions
H Social Sciences > HG Finance
H Social Sciences > HJ Public Finance
JEL classification: E - Macroeconomics and Monetary Economics > E3 - Prices, Business Fluctuations, and Cycles > E32 - Business Fluctuations; Cycles
E - Macroeconomics and Monetary Economics > E6 - Macroeconomic Policy Formation, Macroeconomic Aspects of Public Finance, Macroeconomic Policy, and General Outlook > E62 - Fiscal Policy; Public Expenditures, Investment, and Finance; Taxation
H - Public Economics > H3 - Fiscal Policies and Behavior of Economic Agents > H30 - General
Sets: Departments > Economics
Date Deposited: 24 Nov 2015 10:43
Last Modified: 20 Jan 2020 05:57
URI: http://eprints.lse.ac.uk/id/eprint/64479

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