Long-term Effects of Fiscal Stimulus and Austerity in Europe

We analyze whether there are negative (positive) long-term effects of austerity measures (stimulus measures) on potential output growth. Based on the approach of Blanchard and Leigh (2013) and Fatas and Summers (2018) and using a novel data set of narratively identified fiscal policy shocks, we estimate the impact of these shocks on potential output. We robustly find a considerable underestimation of multiplier effects and their persistence for most European countries in the early years after the financial crisis and subsequent Euro Area crisis. We conclude that fiscal consolidation was badly timed and thus not only deepened the crisis but may have caused evitable hysteresis effects.