The Role of Fiscal Policy Components in Private Consumption: a Re-examination of the Effects of Military and Civilian Spending

In this paper, we re-examine the magnitude of the impact of government spending on private consumption by a new Keynesian approach, focusing on the role of military spending. For this reason, we separate civilian and military spending in the U.S. economy and analyse their respective effects. Our VAR estimates show, as expected, that civilian expenditure induces a positive and significant response on private consumption whereas military spending has a negative impact. We then develop a simple DSGE new Keynesian model to simulate the empirical evidence under a larger persistence of shocks and a different financing mechanism in military spending, the latter reproducing the propensity of policy-makers to use budget deficits to finance wars. Lastly, simulated impulse response functions of alternative specification models prove the robustness of our analysis.