Financial and fiscal shocks in the great recession and recovery of the Spanish economy

Abstract

In this paper we develop a new DSGE model for a small open economy in a currency union, estimated with Bayesian methods, which incorporates a banking and a housing supply sector, consumers and entrepreneurs who accumulate debt, a rich structure of fiscal variables and monopolistic competition in products and labor markets. As an example of its capabilities, the model has been estimated for the Spanish economy, which is an interesting example of a booming economy before the Great Recession, and a country that particularly suffered from the negative consequences of the sovereign debt crisis and exhibited a robust recovery until 2019. Our results show the usefulness of DSGE models, conveniently designed and extended to account for the interaction of real and financial variables and other prominent characteristics of modern economies, as part of our toolkit to analyze the empirical evidence.