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Positive effects of fiscal expansions on growth and debt

Canale, Rosaria Rita (2006): Positive effects of fiscal expansions on growth and debt.

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The aim of this paper is to point out the shortcomings of propositions that deny economic policy any active role and propose a simple model by which public expenditure is still recognised as performing an active and positive function. The core of our thesis is that public deficit, because it actually has positive effects on the rate of growth, does not automatically increase public debt but rather reduces it. These positive effects are greater if the Central Bank’s monetary policy rule does not change. The policy authority has no reason to change its behaviour since there is no strict relation between fiscal expansions and inflation. The smaller the economic weight of the country considered in terms of the whole Monetary Union, the weaker is the link. These conclusions suggest we should rethink the limits imposed by the Stability and Growth Pact to the action of governments and subordinate the possibility of spending to the inflationary effects of deficit on the whole Union.

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