Fiscal Multiplier and the Size of Government Spending Shock

This paper investigates whether fiscal multiplier depends negatively on the size of the government spending shock. We build our hypothesis on behavioral arguments and check it empirically on US data. For doing so, we adopt state-dependent VAR, accompanied by Jorda local projections method, and show that investigated relationship is U-shaped: for small shocks in government consumption and investment, the fiscal multiplier is rising in size of the shock, while for large ones it falls. We address possible endogeneity issues and illustrate that our results are non-sensible to these concerns. Finally, we limit our analysis to government consumption multiplier, as our hypothesis suggests strong non-constancy namely in this position. We find a strong negative relationship between government consumption multiplier and the size of the shock.