Government Spending Between Active and Passive Monetary Policy: An Invariance Result

This paper develops a new approach to analyze the relationship between the government spending multiplier and monetary policy. We embed measures of monetary policy activism into a nonlinear SVAR model. Our model allows the central bank to adjust its monetary policy regime in response to the economic conditions that arise after government spending shocks. We find that, regardless of the monetary policy regime at the time of a spending shock, the central bank adjusts its regime quickly and responds actively towards inflation only a few quarters after the shock hits the economy. This rapid response of monetary policy leaves medium-run multipliers ultimately unaffected by whether the initial regime was active or passive. For both initial regimes, our five-year multiplier estimates lie between 1.2 and 1.5. An apparent exception to this result is the zero lower bound period between 2008Q4 and 2015Q4-during which monetary policy kept nominal interest rates at zero. Our multiplier point estimates for that era are consistently larger than unity.