The Effects of Fiscal Policy on Output, Unemployment and Housing Prices in Australia

Abstract

<p>The effects of fiscal policy on economic issues are complex. Recent literature has raised concerns about the significant impact of fiscal instruments on GDP, consumption, investment, unemployment and housing due to the financial crisis. This thesis addresses the question how government expenditure and/or tax revenue impacts on GDP, unemployment and housing in the case of Australia. We use three different methods to exam the effects of fiscal policy on the Australian economy.</p><p> The structural vector autoregressive model used for the empirical analysis is an important improvement to the reduced-form regression strategies usually employed in the literature. The first method applied was short-run identification method using EVIEWS, which produced no significant impact and results that conflict with current economic theory. The analyses suggest that traditional approaches measuring the effects of fiscal policy on GDP and unemployment rate must be rethought. Findings from this research illustrate the dangers of incorrectly invoking an economic assumption of linking the fiscal instruments to GDP and unemployment rate.</p><p> The second method was sign restrictions identification method using RATs program, based on Uhlig's criteria using SVAR. The results from the second method suggest that whenever the government wants to increase GDP or reduce the unemployment rate, they can increase spending or reduce tax revenue. This result appears to be consistent with those of major contributors to the literature (see for example Blanchard and Perotti, 2002; Mountford & Uhlig, 2009). Although the results come from two different identifications methods, pure-sign-restriction and penalty-function, these findings all followed the same directions. Findings on the unemployment rate response to fiscal shocks, confirmed those of studies such as Monacelli et al. (2010) and Holden & Sparrman (2014), but differed with Bruckner & Pappa (2010).</p><p> The third method uses sign restrictions identification, in conjunction with a Bayesian method executed in MATLAB, to control the signs of the responses from other variables to fiscal shocks. This third can control the results to one specific model. We imposed restrictions to examine the relationships between fiscal policy shocks and the housing price index. Our results show that government spending has positive effects on the housing price index, but that tax revenue shocks do not. This result holds validity for fiscal and housing market policymakers, in the light of housing bubbles and economic fluctuations.</p>