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Consumption multipliers of different types of public spending: a structural vector error correction analysis for the UK

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Abstract

The aim of this paper is to investigate the relationship between government spending and private consumption in the UK, for which there is scarce previous empirical evidence. We disaggregate public expenditure into three categories and search for the corresponding private consumption multipliers. Our analysis is based on the estimation of a structural vector error correction model with quarterly non-interpolated data for the period 1981:1–2007:4. Initially, we estimate negative but barely significant effects on consumption of shocks to total public spending. Then, using the public spending breaking down, we find that while shocks to public wages crowd-out private consumption as predicted by neoclassical models, shocks to the non-systematic component of social spending and government purchases of goods and services generate a positive reaction, so to crowd-in private consumption. Thus, the qualitative and quantitative dimensions of fiscal multipliers on private consumption change across different public spending categories. Our findings suggest that any empirical support of competing theoretical models on the issue would benefit from a disaggregation of government expenditure, rather than focusing on the aggregate measure.

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Notes

  1. In fact, the consumption impulse responses show that, even when using the GDP deflator, the cumulated response of private consumption is circa zero 16 quarters after the public spending shock (ten quarters after the shock the effects become negative, similar to what Perotti (2007) finds investigating a larger time span).

  2. There are other studies of the UK fiscal policy (e.g., Sawyer 2007; Budd 2010), but their scopes are different from the one quantifying the effects of public spending on GDP or on some components of aggregate demand.

  3. As a matter of fact, there are also alternative ways to the same result. Ravn et al. (2004) obtain a positive effect on consumption without credit-constrained agents, but assuming that the representative individual forms consumption habits on the individual variety in a monopolistic competition setting, rather than on aggregate consumption. Corsetti et al. (2009) use spending reversals to get a positive response of private consumption to government spending shocks.

  4. As discussed by Galí et al. (2007), the presence of non-Ricardian consumers must be coupled with sticky prices and imperfectly competitive markets in order to obtain a private consumption’s positive response.

  5. Note that in both approaches private consumption is required to be a normal good.

  6. The quarterly data of the Economic Outlook are normally obtained by interpolation, but not those of the UK. The beginning of the period has been chosen because of the strong evidence for a structural break in UK data between 1981 and the previous period (Perotti 2004).

  7. “The reason for overruling information criteria in the empirical literature and mechanically opting for four lags goes back to Blanchard and Perotti (2002). In their paper the goal was to capture seasonal patterns in the collection of taxes by allowing for quarter dependence, hence, the four lags” (Hauzenberger 2010, p. 8).

  8. The dummies refer to the following quarters: 1992:1 and 1993:1 (sharp increases in debt due to the EMS crisis); 1991:1 (increase in GTOT); 1988:4 (increase in GC); 1991:2 (increase in GSS).

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Acknowledgments

We thank all the participants in the 2011 SES Annual Conference (Perth, April), in the 2011 ISNE Conference (Dublin, August), in the 73rd IAES Conference (Istanbul, March 2012), and in the 16th ICMAIF Conference (Rethymno, May 2012) for useful comments. A previous version of this paper circulated under the title “The response of private consumption to different public spending categories: VAR evidence for the UK”: we thank all the participants in the Ecomod 2010 Conference (Istanbul, July) and in the Department of Economics seminar in Bologna (November 2009) for useful comments on that version. All remaining errors are our responsibility.

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Authors and Affiliations

  1. Department of Economics, University of Bologna, Strada Maggiore 45, 40125 , Bologna, Italy

    Luigi Marattin

  2. Department of Accounting Finance and Economics, Oxford Brookes University, Wheatley Campus, Oxford, OX33 1HX, UK

    Simone Salotti

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  1. Luigi Marattin
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  2. Simone Salotti
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Correspondence to Simone Salotti.

Appendix

Appendix

1.1 Variables construction and data sources

We use UK quarterly data for the period from the first quarter of 1981 to the fourth quarter of 2007. The variables are the following, all taken from the OECD Economic Outlook no. 83 with the exception of the measures of durables and non-durables consumption (source: ONS Consumer Trends).

  • Government consumption GC Natural logarithm of (government final non-wage consumption expenditure + general government other current disbursements) deflated by the government final consumption expenditure deflator.

  • Government wage expenditure GW Natural logarithm of government final wage consumption expenditure deflated by the government final consumption expenditure deflator.

  • Government net social security benefits GSS Natural logarithm of cyclically adjusted (social security benefits paid by general government + subsidies \(-\) social security contributions received by general government) deflated by the government final consumption expenditure deflator.

  • Total government spending GTOT Natural logarithm of the sum of the three components.

  • Taxes Natural logarithm of cyclically adjusted (total direct taxes + total indirect taxes) deflated by the GDP deflator.

  • Private consumption C Natural logarithm of private final consumption expenditure deflated by the private final consumption expenditure deflator.

  • Government debt B Natural logarithm of general government net financial liabilities deflated by the GDP deflator.

  • Durables consumption CDUR Natural logarithm of household final expenditure in durables goods, chained volume measures.

  • Non-durables consumption CNDUR Natural logarithm of household final expenditure in goods and services, chained volume measures (Table 4).

Table 4 Some descriptive statistics
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1.2 VECM estimates (four models according to the different public spending variables)

See Tables 5, 6, 7, 8, 9 and 10.

Table 5 Total government spending (GTOT) model
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Table 6 Government wages (GW) model
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Table 7 Government net social security spending (GSS) model
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Table 8 Government purchases of goods and services (GC) model
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Table 9 Diagnostics
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Table 10 Estimated \(A\) and \(C(1)A\) matrices
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Marattin, L., Salotti, S. Consumption multipliers of different types of public spending: a structural vector error correction analysis for the UK. Empir Econ 46, 1197–1220 (2014). https://doi.org/10.1007/s00181-013-0719-0

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