Which kind of countercyclical fiscal policy is best?
Miguel Faria-e-Castro, on the job market from NYU, has a very interesting paper on that question. Here are his findings:
What is the impact of an extra dollar of government spending during a financial crisis? How important was fiscal policy during the Great Recession? I develop a macroeconomic model of fiscal policy with a financial sector that allows me to study the effects of fiscal policy tools such as government purchases and transfers, as well as of financial sector interventions such as bank recapitalizations and credit guarantees. Solving the model with nonlinear methods allows me to show how the linkages between household and bank balance sheets generate new channels through which fiscal policy can stimulate the economy, and study the state dependent effects of fiscal policy. I combine the model with data on the fiscal policy response to assess its role during the financial crisis and Great Recession. My main findings are that: (i) the fall in consumption would had been 1/3 worse in the absence of fiscal interventions; (ii) transfers to households and bank recapitalizations yielded the largest fiscal multipliers; and (iii) bank recapitalizations were closest to generating a Pareto improvement.
Bank recapitalizations — just remember that the next time you hear someone talking about “G” in the abstract.
See also this new Alesina NBER paper, indicating that the how of fiscal adjustment is much more important than the when. No tax hikes!