Guido Ascari, University of Pavia

1. Discussion of “On Ricardian Equivalence and Twin Divergence:The Spanish Experience in the 2009 Crisis” by M. Cardoso and R. Doménech Guido Ascari, University of Pavia Banco de España Conference “Interactions between monetary and fiscal policies” Madrid, 25-26 February 2010 Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

2. Standard Structure • Praise of the paper • Summary of main results • Try to say something clever Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

3. Praise • Very nice paper • Very rich model: REMS (Rational Expectations Model of the Spanish economy). Big-scale DSGE NK model with: • SOE in a monetary union • Two agents (credit constraints) • Search and matching frictions on the labor market • Public capital and energy in the production function • Public debt, various distortionary taxes and spending (transfers, public expenditure/investment) Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

4. Motivation: assess the effects of fiscal expansions in SE 3 exercises: increase in public consumption, public investment and labor taxes Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

5. Main result Fiscal expansions cause only minor CA deficits  similar behaviour of • Saving • private savings only partially offset the movement in public savings, because Ricardian equivalence does not hold by construction - Investment (crowding-out) Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

6. Try to say something clever • Motivation • Model • Policy and results Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

7. Motivation • Explain the twin divergence observed during the recent crisis • “However, with the current economic crisis, the […] public budget surplus has turned into a huge deficit, […] the households saving rate has increased enormously,[…] and the current account deficit, […] is correcting very quickly.” • Current economic crisis is having big effects on Spain => great policy relevance • Subprime crisis…housing sector (boom and bust)…hh debt • Default risk and toxic assets…stock mkt and financial sector • Then banking crisis • Then real effects from “credit crunch” • There is nothing in the model that relates to the crisis: no housing, no borrowing and lending, no credit, no banks Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

8. Model The spread • It maybe usual way “to close small open economy model” • Opposite direction to the current concerns regarding the PIIGS • especially relevant if one looks at the effects of fiscal policy and thus changes in national debt • …and only domestic residents hold domestic public debt Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

9. “representative worker” surplus firm surplus Earning premium of employment over unemployment for a ROT and an optimizer Model The labor contract: efficient Nash bargaining Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

10. Model Public Investment • Increase in public investment => what happens to private savings? • Role of complementarity between the two capitals, i.e., Role of the assumption: public capital enters directly the production function?... • And what if foreign countries can finance public investment? Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

11. Policy and Results Assumption about the fiscal policy reaction function …here is based on lump-sum transfer • realism?? • Why not exploit the rich structure of distortionary taxes? which taxes gives the bigger effects? • Corsetti et al. (2009)…importance of spending reversal Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia

12. Policy and Results • The role of policy mix….(could not find TR parameter) • robustness on monetary policy rule and parameters • it may be less important in a monetary union, given the small weight of the Spanish economy in EMU inflation • on the other hand, seems very accommodative, because the rate do not change • Crisis: the lower bound and the fiscal multiplier (Christiano et al., 2009) Discussion of Cardoso and Doménech - Guido Ascari, University of Pavia