Survey Methods in Macroeconomics Matthew Shapiro University of Michigan

Goals for course Some recent, successful methods – Surveys, Narrative, Econometrics Looking forward to dissertations – Shifts in policy and shocks to economy create opportunities for research – Use a variety of empirical methods – Link results to theoretical questions – Understand specific episodes

Applications/Topics Fiscal policy – Theory – Approches Narrative Survey Econometrics Great recession and financial crisis Resources/topics for research

Outline: Understanding fiscal stimulus Theoretical considerations: – When should tax cuts and government spending be stimulative? – What do empirical findings tell us about validity of theories?

Outline: Understanding fiscal stimulus Recent empirical evidence – Evidence from narrative history tax cuts (Romer/Romer) military spending (Ramey/Shapiro) – Comparing with econometric approaches Narrative versus VAR (Ramey) – Case study of 2008 rebates Michigan Surveys (Sahm, Shapiro, Slemrod) Consumer Expenditure Survey (Parker, et al)

Theory: Neoclassical Benchmark Equilibrium output supply constrained For output to increase, fiscal stimulus to demand must also increase labor supply Labor supply moved through wealth effects Wealth effects typically small on net

Literature Strict neoclassical model Barro Baxter and King (AER, 1993) New Keynesian model Hall (BPEA, 2009) Woodford (AEJ:Macro, 2011) [MAIN REFERENCE FOR LECTURE]

Fiscal multiplier (following Woodford, 2011) Discounted utility: consumption and labor Production Adding up, Market clearing

Fiscal multiplier (following Woodford, 2011) Household optimization Firm optimization Equilibrium

Fiscal multiplier (following Woodford, 2011) Rearranging Substituting C, Y, and inverse labor demand:

Fiscal multiplier (following Woodford, 2011) Totally differentiating Utility curvatureLabor supply elasticity and production function curvature Potential very small if labor supply relatively inelastic

Fiscal multiplier Lesson of neoclassical analysis – Multiplier bounded below one – Likely to be small Taxes – In benchmark neoclassical model, timing of taxes irrelevant Lump sum Ricardian equivalence  Taxes irrelevant

Lump sum tax cut multiplier Transfer from Ricardian consumers to non-Ricardian consumers – 1: Consumers generically non-Ricardian – 2: Fraction of consumers liquidity constrained Lump sum tax cuts will have damped responses relative to purchases multiplier – Focus on MPC in empirical work critical – Analogous to “leakages” in textbook

Tax cut multiplier Tax cuts that effect rates of return to saving and work will have larger effects – Long-term incentive effects – Short-run timing effects

NeoKeynesian multiplier Markup: Wedge from imperfect competition

NeoKeynesian multiplier Markup and increased multiplier Fiscal expansion reduces markup by increasing competition (Rotemberg and Woodford, 1992) Stick prices: – Supply decisions based on ex ante demand – Marginal cost does not increase with fiscal stimulus

Role of Monetary Policy Normal times Level of monetary accommodation affects multipliers “Leaning against wind” the presumption Zero lower bound No increase in nominal interest rate Real rate reduced though increased inflation expectations