Non-Keynesian Effects of Fiscal Expansion on Real Interest Rates

Abstract

The expansionary characteristics of the multi-year fiscal policy in Israel (and especially the share of government spending in the product and the ratios of overall debt and tax burden that were, during the sample period, among the highest in the western world) created many similarities to the characteristics that are described in economic literature as related to non-Keynesian effects. In addition to the current literature on non-Keynesian effects, this research, as far as I know, is the first that tries to identify empirically non-Keynesian effects of fiscal expansion on the monetary side of the economy: real interest rates, and not merely on growth or its components. Indeed, the research results point to strong non-Keynesian effects of fiscal policy on real interest rates, which even may exceed the effect of the monetary policy in the mid-term. The results also show that the effect of fiscal policy, like that of monetary policy, declines over time. This is consistent with the accepted theory in the literature, by which the effect of both are completely disappeared in the long term. The global crisis in the financial markets and the expansionary fiscal policy that accompanied it make the findings very relevant to other western economies.

JEL Classification: E12, E42, E52