Trade openness and the effectiveness of fiscal policy: some empirical evidence

Is the potency of fiscal policy lower for more open economies, as suggested by economic theory? Using annual data from the period 1951–2007, for 62 developed and developing economies, the paper’s empirical findings show that the effectiveness of fiscal policy is indeed reduced by an economy’s trade openness, and that the effect is quantitatively substantial. In particular, the paper’s estimates suggest that an increase in trade openness by 10% of GDP reduces the magnitude of the long-run fiscal multiplier by 5–6%. Copyright Springer-Verlag 2012