Fiscal policy effectiveness depends on networks, household MPCs
A new ECB working paper explores how sector-specific fiscal policy transmits through production networks with heterogeneous households. The study finds fiscal multipliers depend on sectors' network positions and household spending behavior.
Networks, MPCs: A non-additive interaction
This paper develops a multisector New Keynesian model to study the propagation of sector-specific fiscal policy in an economy with heterogeneous households and production networks.
It highlights how input-output linkages interact with differences in households' marginal propensities to consume (MPCs).
A key finding is that production networks do not automatically amplify fiscal policy; instead, their effect is non-additive and depends crucially on how income generated by government spending is redistributed across households with varying spending propensities.
The study introduces an "MPC-augmented network multiplier" and an intersectoral Keynesian cross to characterize this transmission.
Fiscal policy is most effective when spending is directed toward labor-intensive, downstream sectors that employ a large share of high-MPC households, as this maximizes the demand response.
Conversely, if income flows to firms purchasing inputs or to households with lower MPCs, the network can even dampen the overall fiscal effect.
Sectoral multipliers vary widely
Calibrating the model to the U.S. economy using Survey of Consumer Finances data reveals substantial sectoral heterogeneity in household balance sheets and the prevalence of 'hand-to-mouth' households.
For instance, agricultural workers show significantly lower liquid net wealth and higher hand-to-mouth proportions compared to those in communication and finance.
These differences lead to sizable variations in sectoral fiscal multipliers.
Spending in wholesale and retail trade, which employs many high-spending households, yields a multiplier of around 1.2. In contrast, spending in communication and finance results in a multiplier below one, indicating a dissipation of stimulus.
Ignoring either household heterogeneity or production networks risks substantial mismeasurement of fiscal effects.
Beyond aggregate averages
This research critically challenges traditional macroeconomic models by demonstrating that fiscal policy cannot be effectively evaluated in isolation from the granular structure of production networks and heterogeneous consumption responses.
Its findings underscore the imperative for policymakers to adopt a more nuanced, sector-specific approach to fiscal stimulus.
Such a detailed understanding is crucial for designing interventions that genuinely maximize economic impact and avoid unintended distributional consequences.