The Effects of COVID-19 and their Mitigation through Fiscal Policy: Results from a DSGE Model with Financial Frictions

This study investigates the effectiveness of fiscal policy in macroeconomic sta- bilization during the COVID-19 health crisis through a Dynamic Stochastic General Equi- librium (DSGE) model, incorporating financial frictions and using Romanian empirical data from 2007-2020. We analyse the impact of a consumption and labour demand shock similar to the ones occurring during the COVID-19 health crisis and explore how discretionary fiscal measures can modulate their effects. The findings suggest that increased government spend- ing during the economic downturns of COVID-19 appears to mitigate some of the adverse effects, particularly on output and investment. While consumption does not seem to benefit significantly from fiscal stimulus, public spending helps to moderate declines in output and bolsters investment, especially in scenarios with a financial accelerator.