Sectoral labor market effects of fiscal spending

• This paper studies sectoral labor market effects of fiscal spending.
• Fiscal spending is either wasteful or productivity enhancing.
• We estimate a New Keynesian model with search and matching frictions and two sectors.
• We find significant differences across sectors and a key role for government investment.
• Investment shocks are much more effective in stimulating the economy than spending shocks.

This paper studies sectoral effects of fiscal spending. We estimate a New Keynesian model with search and matching frictions and two sectors. Fiscal spending is either wasteful (consumption) or productivity enhancing (investment). Using U.S. data we find significant differences across sectors. Further, we show that government investment rather than consumption shocks are driver of fluctuations in sectoral and aggregate outputs and labor market variables. Finally, government investment shocks are much more effective in stimulating the economy than spending shocks. However, this comes at the cost of an increase in the unemployment rate.