NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Understanding the Effects of Government Spending on Consumption

Jordi Galí, J. David López-Salido, Javier Vallés

NBER Working Paper No. 11578
Issued in August 2005
NBER Program(s):EFG

Recent evidence suggests that consumption rises in response to an increase in government spending. That finding cannot be easily reconciled with existing optimizing business cycle models. We extend the standard new Keynesian model to allow for the presence of rule-of-thumb consumers. We show how the interaction of the latter with sticky prices and deficit financing can account for the existing evidence on the effects of government spending.

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Document Object Identifier (DOI): 10.3386/w11578

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