Tax multipliers across the business cycle

We estimate the impact of tax shocks on output across different stages of the business cycle. We do this for a panel of nine advanced economies using a harmonized dataset of narratively identified exogenous tax changes and a smooth transition local projection model. The output response to an exogenous tax shock is significant, but only during economic expansions. In recessions, the tax multiplier is insignificant, both in the short- and long run. We also find that, during booms, output only responds to tax hikes and is unresponsive to tax cuts. The results on the state-dependent and asymmetric effects of tax shocks are robust to a number of alternative model specifications and definitions of the business cycle.

Keywords: tax multiplier; state-dependent effects of fiscal policy; local projection method
JEL codes E32; E62

Working paper no. 699