Valerie A. Ramey van de Hoover Institution has a new one Nber paper This investigates the impact of a flat -rate transfer payments on the total demand. Here is the summary:
This article again evaluates the effectiveness of temporary transfers when stimulating the macro economy, with the help of evidence from four case studies. The rebirth of the Keynesian stabilization policy has persistent costs in terms of higher debt paths, so it is important to assess the benefits of this policy. In every case study I analyze whether the behavior of the aggregated data is consistent with the transfers that produce an effective stimulus. Two of the case studies are reviews of evidence from my recent work on the American tax discounts of 2001 and 2008. The other two case studies are new analyzes of temporary transfers in Singapore and Australia. In all four cases, the proof suggests that temporary cash transfers to households have probably given little or no incentive for the macro economy
This comment caught my attention:
I find no evidence that the payouts of the Singapore election year stimulate the macro economy. These results are consistent with the tax discounts of 2001 and 2008 in the US, as summarized in the earlier section. However, we are left with a puzzle: why are the high household MPCs estimated by Agarwal and Qian (2014) not in an aggregated consumption? Since I do not have current access to the micro data, I leave the reconciliation of the conflicting micro and macro results to future research.
Let’s take the example of the Tax Discounts of 2008, which took place in April and May. For the argument, assume that 75% of households received a check of $ 1000 and that the other 25% did not receive a discount. Also assume that the discount would lead households who received a check to stimulate the expenses by 4%, while other households were not influenced. In that case, the discount may have a tendency to push the 3% higher consumption.
During this period, however, inflation accelerated sharply, especially as a result of rising raw materials and a strongly weaker dollar. The FED responded to this inflation by sharpening monetary policy. This did not take the form of an increase in interest rates, but the FED kept its target interest at 2%, even when the natural interest rate fell sharply in mid -2008. Now assume that the tight money policy of the Fed tends to reduce the expenses by all households by 3%.
If we combine the effects of the tax stimulans with the tight money, you would expect the households who received a tax credit to spend 1% more (the initial increase of 4%, minus 3% as a result of tighter money), while the 25% of households that did not receive a discount check can be expected 3% less. In that case, monetary policy would have fully compensated the expansive effect of the tax stimulus.
This example is of course only an illustration of monetary offset. Nevertheless, it shows that “micro data” (ie domestic behavior) may seem to suggest that tax stimulus works, even if macreg data has no effect. If monetary policymakers do their work, they must always fully compensate for all tax policy initiatives that consist of changes in flat -rate taxes and transfers. (Changes in marginal tax rates can have the effects on the supply side.)
Ramey’s Paper offers a number of graphs that show changes to disposable income and consumption. Note how disposable income peaks in May 2008 because of the tax credit, while consumption remains largely unaffected: