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The Expansionary Fiscal Contraction (EFC) hypothesis suggests that a major fiscal consolidation leads to an economic expansion. The authors test this hypothesis, and the implied non - linear responses of the economy to large and small changes in fiscal policy using data from the Swedish budget consolidation 1994-1997 that was implemented after the banking crisis in the early 1990's. They use a structural VAR/event study methodology that explicitly allows them to distinguish between normally marginal changes in fiscal policy and comprehensive fiscal reforms. They find that "Marginal changes" in fiscal policy (expenditure and tax changes) have the expected Keynesian effects on output and consumption.
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