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The title of my dissertation is "Essays on Dynamic Fiscal Policy: Theory and Empirics". My dissertation consists of three chapters. In my first chapter, I have tried to understand the effect of government spending on aggregate and disaggregate consumption. Empirical estimates of the effect of government spending indicate crowding-in effect on aggregate output, consumption and labor supply, a positive co-movement between consumption of durables and non-durables and a cyclical crowding in-crowding out effect on investment. But most of the neo-classical real business cycle models fail to explain most of these empirical facts and frequently, all of them. I develop an RBC model where some agents face a binding borrowing constraint. The borrowing constraint is imposed in the form of a collateral constraint on these agents when they seek to borrow from the private debt market. I also propose an improved method for fitting the model to the data. Prior predictive analysis shows that the borrowing constraint increases the volatility of the model and helps to ensure a better fit. It also shows that the parameter space that is most consistent with the data is also consistent with the calibrated values used in the model. Finally, I show that once the model is properly calibrated, the impulse response functions of an unanticipated increase in government spending match all of their empirical counterparts. In my second chapter, attempts to understand the role of limited heterogeneity in the designing of various fiscal policy. I tried to look at the role of income heterogeneity in the Dynamic Scoring analysis, which looks at the effect of alternative tax cuts and their finances. Traditionally, Dynamic Scoring experiments are carried out using representative agent based macroeconomic models. Existing literature does not provide any objection to this approach. In this paper, I develop a heterogeneous agent model similar to the Saver-Spenders model of Mankiw(2000). But spenders in my model are merely credit constrained and not Rule of thumb consumers. Both groups are intertemporal optimizers because of the existence of Internal Habit Persistence. Transition path of most of the macro and fiscal variables for various tax cuts under alternative financing scheme shows pattern which are significantly different and sometimes contrasting to the representative agent model. Dynamic scoring calculations reveal a downward bias of the representative agent model. Underestimation of the dynamic response could be as large as 45%. Finally, steady state results indicate smaller impact of contractionary policies on major fiscal variables such as net tax revenue and tax base. Over all, the paper argues that the need to use heterogeneous agent based model in dynamic fiscal calculations is not only desirable but also essential. In my third chapter, I tried to understand the effect of demographic uncertainty on the macro economy under alternative social security systems. In this chapter, I analyze consumption, aggregate savings,output and welfare implications of five different social security arrangements whenever there is demographic uncertainty. Following Bohn(2002), I analyze the effect of an uncertain population growth in an extended version of a modified Life-cycle model developed by Gertler(1999). Population growth dampens savings and output under all arrangements. Pay-as-you-go-Defined Benefit system appears to fare better than all other alternatives, falling short of the private annuity market with no pension system. But social security in general increases social welfare, with Fully Funded systems faring the best. Thus there appears to be a clear tradeoff between growth and social welfare. The social security system also reduces the volatility of the economy.
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