4.3 A Deficit Financed Tax Cut Fiscal Policy Scenario
The impulse responses for a deficit financed tax cut fiscal policy scenario are shown in
Figure 11. The policy scenario is designed as a sequence of basic fiscal shocks such that
tax revenues fall by 1% and government spending remains unchanged for four quarters
(including the initial quarter) following the initial shock. The responses look very similar
to a mirror image of the responses to the basic government revenue shock in Figure 4.
Thus the tax cut stimulates output, consumption and investment significantly with the
effect peaking after about three years. The effect on prices is initially negative but
subsequently positive following the rise in output