When Is the Government Spending Multiplier Large

In: Journal of political economy, Volume 119, Issue 1, p. 78-121

Abstract

The authors argue that the government spending multiplier can be much larger than one when the zero lower bound on the nominal interest rate binds. The larger the fraction of government spending that occurs while the nominal interest rate is zero the larger the value of the multiplier. After providing intuition for these results they investigate the size of the multiplier in a dynamic stochastic general equilibrium model. In this model the multiplier effect is substantially larger than one when the zero bound binds. The model is consistent with the behavior of key macro aggregates during the recent financial crisis. Adapted from the source document.