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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: heniexka@gmail.com
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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

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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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