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International Monetary Fund. Western Hemisphere Dept.
This Selected Issues paper investigates the impact of exchange rate movements on private consumption in Uruguay. Uruguay is a highly dollarized economy, which makes the relationship between exchange rate movements and private consumption particularly complex. The paper shows that a large share of Uruguayan households is liquidity constrained, which allows the transitory real income shocks brought about by exchange rate pass-through to have a significant impact on consumption. Moreover, exchange rate pass-through is highly heterogenous, with relative prices of durables increasing (decreasing) following a depreciation (appreciation). This creates incentives for households to engage in intertemporal substitution where they buy durables when they are relatively cheaper. Data from Input–Output tables show that Uruguay produces a nontrivial amount of the tradable, durable goods it consumes, opening the door to contractionary depreciations. The results offer a potential explanation for the often noted ‘excess volatility of consumption’ in emerging markets for the case of Uruguay.
Ali Alichi, Mr. Ippei Shibata, and Kadir Tanyeri
Government debt in many small states has risen beyond sustainable levels and some governments are considering fiscal consolidation. This paper estimates fiscal policy multipliers for small states using two distinct models: an empirical forecast error model with data from 23 small states across the world; and a Dynamic Stochastic General Equilibrium (DSGE) model calibrated to a hypothetical small state’s economy. The results suggest that fiscal policy using government current primary spending is ineffective, but using government investment is very potent in small states in affecting the level of their GDP over the medium term. These results are robust to different model specifications and characteristics of small states. Inability to affect GDP using current primary spending could be frustrating for policymakers when an expansionary policy is needed, but encouraging at the current juncture when many governments are considering fiscal consolidation. For the short term, however, multipliers for government current primary spending are larger and affected by imports as share of GDP, level of government debt, and position of the economy in the business cycle, among other factors.
Ms. Anita Tuladhar and Markus Bruckner

Front Matter Page Fiscal Affairs Department Authorized for distribution by Benedict Clements Contents I. Introduction II. Background A. Fiscal Stimulus Packages: Size and Composition B. Literature Review III. Empirical Strategy and Data IV. Results: Elasticity and Multiplier Estimates A. Government Investment Elasticities B. Government Investment Multiplier Estimates C. The Government Expenditure Multiplier D. Robustness Analysis V. Factors Contributing to the Low Multipliers A. Testing for Crowding Out Effects B

Ethan Ilzetzki, Mr. Enrique G. Mendoza, and Mr. Carlos A. Végh Gramont

Interest Rate to a 1% shock to Government Consumption Figure 9. Responses of Private Investment and Consumption to a 1% shock to Government Consumption Figure 10a.Cumulative Multiplier—Open and Closed Economies Figure 11. Cumulative Multiplier. Highly Indebted Countries Figure 12. Cumulative Government Investment Multiplier Figure 13. Responses to a 1% Government Investment Shock Figure 14. Cumulative Multiplier to a “pure” government investment shock: High-income and Developing Countries Figure 15. Cumulative Multiplier to a “pure” Government Investment

International Monetary Fund. Western Hemisphere Dept.

multipliers steadily increasing above two . Impulse response analysis shows that output responses are more persistent to government investment shocks. Both the VAR models and LP method suggest that while impact multipliers for government investment are less than one, they tend to increase gradually through time and reach levels above two. These results are similar to the government investment multipliers obtained for Paraguay ( David, 2017 ) that increase from 0.1 to 2.1 in 5 years and for Peru ( Vtyurina and Leal, 2016 ) that reach from 0.5 to 1.1 in 3 years. 18. Tax

Ms. Anita Tuladhar and Markus Bruckner
How effective was public investment in stimulating the Japanese economy during the economic stagnation of the 1990s? Using a dataset of regional public investment spending, we find that investment multipliers were higher than for public consumption, although they were relatively low and declining over time. The paper also finds that the effectiveness of economic infrastructure investment, implemented mainly by the central government, is lower than that of social investment mostly undertaken by local governments. These results suggest that while public investment may yield higher output effects than other spending, its effectiveness depends upon its composition, the level of government implementation, and supply side factors.
Ethan Ilzetzki, Mr. Enrique G. Mendoza, and Mr. Carlos A. Végh Gramont
We contribute to the intense debate on the real effects of fiscal stimuli by showing that the impact of government expenditure shocks depends crucially on key country characteristics, such as the level of development, exchange rate regime, openness to trade, and public indebtedness. Based on a novel quarterly dataset of government expenditure in 44 countries, we find that (i) the output effect of an increase in government consumption is larger in industrial than in developing countries, (ii) the fisscal multiplier is relatively large in economies operating under predetermined exchange rate but zero in economies operating under flexible exchange rates; (iii) fiscal multipliers in open economies are lower than in closed economies and (iv) fiscal multipliers in high-debt countries are also zero.
Ethan Ilzetzki, Mr. Enrique G. Mendoza, and Mr. Carlos A. Végh Gramont

ordering is reversed. The number of countries in the sample declines when including government investment, but the results for government consumption reported in section 3 hold roughly for this sub-sample as well. Figure 12 shows the cumulative government investment multiplier for high-income countries in a simple bivariate regression, including only government investment and GDP. The smaller sample size yields estimates that are significantly less accurate. The estimated impact and long-run government investment multipliers are substantially higher than those on

Ali Alichi, Mr. Ippei Shibata, and Kadir Tanyeri

the IMF’s Global Integrated Monetary and Fiscal (GIMF) model calibrated to a hypothetical small open economy. Results from both the empirical and GIMF models suggest that medium-term multipliers of government current primary spending (on the level of GDP) are around zero, while those of government investment are closer to 1. Medium-term tax multipliers are estimated at a fraction of the medium-term government investment multipliers. As for the short term, however, government current primary spending multipliers are estimated to be larger. The impact government

Ms. Anita Tuladhar and Markus Bruckner

captured, our estimates of the regional elasticity are likely to be a lower bound for the country-wide average elasticity effect. B. Government Investment Multiplier Estimates Transforming the dynamic panel estimates obtained above by multiplying the elasticity estimate with the inverse of the average public investment to GDP ratio, we get an impact multiplier effect of public investment on regional output of 0.28. 8 The medium-term multiplier effect of government investment on output depends on the persistence of the government spending shock. For a fully