From Okun's Law to Fiscal Multipliers in France and Italy

Abstract

This paper introduces a novel application of the Updated Okun Method to estimate fiscal multipliers. By leveraging Okun's Law to compute potential output and the output gap, we construct a new measure of the fiscal stance that improves transparency and interpretability. Applying this approach to France and Italy, we find that both economies were operating below full potential for most of the sample period, and that fiscal policy was more contractionary than standard estimates suggest. Our analysis reveals significant differences in fiscal multiplier effects across the two countries, with evidence of state-dependence in France, where fiscal policy is more effective during periods of economic slack, while no such variation is observed for Italy. These findings underscore the importance of aligning fiscal policy with economic conditions, particularly in the context of public debt sustainability debates.