Understanding the Effects of a Shock to Government Purchases

This paper investigates the consequences of an exogenous increase in U.S. government purchases. We find that in response to such a shock, employment, output, and nonresidential investment rise, while real wages, residential investment, and consumption expenditures fall. The paper argues that a simple variant of the neoclassical model which distinguishes between nonresidential and residential investment is consistent with this evidence.