Not All Fiscal Cuts Are Created Equal: Why Fiscal Multipliers Matter for Central Banks?

1. Introduction: Why Fiscal Multipliers Matter for Central Banks?

As of September 2025, global public debt soared to $251 trillion, roughly 235% of world GDP (IMF, 2025). Across Asia, governments are under pressure to tighten their budgets to ensure debt sustainability. However, for central banks charged with safeguarding economic and price stability, how those fiscal adjustments are made is as crucial as the fact that they happen. The wrong mix of spending cuts and tax hikes could inadvertently stifle growth or destabilize prices, complicating the job of monetary policymakers in the region.

The fiscal multiplier, which measures how much output changes for each dollar of fiscal tightening or stimulus varies widely depending on the type of fiscal measure and a country’s economic structure (Acemoglu & Johnson, 2007; Batini et al., 2014). As fiscal consolidation gains momentum across economies, central banks face a more complex policy landscape. What you cut matters more than how much you cut because it changes the very variables central banks are targeting.

The type of fiscal tightening, not just how large it is, matters for central banks because different measures affect aggregate demand, inflation dynamics, labour market conditions, and the output gap in very different ways. These variables are central to how monetary authorities calibrate interest rates and assess economic conditions. (Bajaro et al., 2025; Chen, 2023). In turn, monetary policy through the interest rate can affect the government’s cost of financing deficits, shaping the feasibility and timing of fiscal consolidation.

These interactions underscore why coordination matters (Mihaljek, 2021; Wang, 2025). Fiscal and monetary authorities often pursue complementary objectives, debt sustainability on one side, price and financial stability on the other, but their instruments can push the economy in different directions if not aligned. Effective coordination does not mean one authority dominating the other; rather, it requires clear communication, realistic assessments of the economic cycle, and awareness of how fiscal multipliers modify the transmission of interest-rate changes (Blanchard, 2023; MasEconomics, 2024).  Effective coordination will ensure that fiscal consolidation does not unintentionally counteract monetary policy goals, especially when high multiplier cuts can weaken demand and widen the output gap. If both policies pull in the same direction without coordination, tight fiscal and monetary, overall macro conditions can become overly contractionary, deeper slowdowns and financial stress. Conversely, uncoordinated expansionary fiscal and monetary policies can lead to overheating economies, asset bubbles, and persistent inflationary pressures (Beyer, 2023).

Understanding the fiscal multiplier profile therefore helps monetary authorities to anticipate the macroeconomic environment in which they must operate and judge whether policy trade-offs are becoming steeper.

2. A SAM-Based Approach to Fiscal Multipliers

This blogpost illustrates how a Social Accounting Matrix (SAM) approach to quantify fiscal multipliers in an emerging economy, using Malaysia as a case study.

A SAM is an economy-wide data framework capturing how different sectors, households, and factors of production are interlinked. By tracing how government spending or tax changes ripple through these linkages, SAM-based analysis can estimate the overall impact on GDP. This method provides a more granular view than standard linear models by accounting for sectoral spillovers and distributional effects.

In the study, a detailed SAM with 33 industries and multiple household and labor groups was used to simulate various fiscal consolidation measures. This structural approach reveals how cuts or tax hikes in one area affect not just direct beneficiaries but also suppliers, workers, and consumers across the economy. Such a comprehensive methodology is well-suited for SEACEN economies, where complex supply-chain linkages and consumption patterns mean that fiscal policy can have wide-ranging indirect effects

3. Core Fiscal Multiplier Findings: Not All Fiscal Adjustments Are Equal

Which fiscal consolidation measures hurt growth the most? The findings highlight that not all budget cuts are created equal. Some have a far larger contractionary impact on GDP than others. Cuts to growth-enhancing expenditures carry the highest multipliers, meaning they reduce output disproportionately:

Table 1. Fiscal multipliers for different fiscal policy measures (SAM estimates)

Fiscal policy measure	Output multiplier (SAM)
Public wage bill – cut	1.55
Public investment – cut	1.54
Government procurement – cut	1.53
Total government consumption – cut	1.40
Social transfers (welfare) – cut	1.10
Tax increase (revenue measure)	1.05

                        

• Public investment cuts: Reducing government investment in infrastructure and development has one of the largest fiscal multipliers (around 1.54). In other words, a $1 cut in public investment can shrink overall GDP by roughly $1.54. This reflects the high downstream impact of infrastructure and capital projects on jobs, productivity, and private-sector activity. Slashing such projects not only delays improvements in roads, schools, or hospitals, but also dampens demand in construction, manufacturing, and services that rely on those projects. The finding is consistent with Gechert (2015) that public investment has higher multiplier effects compared to other forms of government spending.
• Public wage bill cuts: Cutting public sector salaries or jobs similarly yields a multiplier of 1.55. Government wages support household consumption: broad-based cuts would quickly weaken consumer spending and ripple through sectors dependent on that spending. In economies where the government is a major employer, wage cuts can significantly curtail aggregate demand. The study’s evidence suggests across-the-board public pay cuts are among the most contractionary consolidation tools, a finding especially relevant for countries with large civil services.
• Government procurement cuts: Reducing government purchases of goods and services (procurement) also has a high multiplier (about 1.53). When governments scale back orders for supplies, maintenance, or services, it hits private suppliers and contractors, potentially triggering layoffs along supply chains. These supply-chain disruptions amplify the downturn beyond the initial fiscal savings. The analysis indicates that a cut in procurement contracts can drag down GDP more than an equivalent cut in other operating expenditures.

By contrast, measures on the revenue side or involving transfers show much smaller multipliers, implying a gentler impact on output:

• Social benefit cuts: Reductions in social transfers (such as welfare benefits or subsidies) have a multiplier around 1.1. While any cut in income to households will soften spending, well-targeted transfer cuts, or preferably, savings through better targeting tend to be less immediately damaging to aggregate demand than investment or payroll cuts. Nonetheless, they can harm low-income groups, so policymakers must weigh equity implications even if the overall GDP impact is moderate (Cardoso et al. (2023).
• Tax increases: The tax multiplier is 1.05, implying that every unit increase in taxation results in a 1.05-unit contraction in GDP. This is lower than expenditure-based multipliers, confirming findings from empirical literature that revenue-based fiscal consolidations tend to be less contractionary than expenditure-based ones. The relatively small size suggests that tax hikes have a more limited impact on economic activity compared to spending cuts, possibly due to revenue recycling effects in government expenditure. In other words, the tax collection often reinvests in public services, infrastructure, or social programs, which can mitigate the contractionary effects of the tax increase (Gerchert, 2015).

The takeaway is clear: fiscal multipliers differ markedly by the composition of consolidation. Cutting essential development expenditures or incomes has a far larger economic cost than measures like improving tax collections or trimming non-critical transfers.

For SEACEN economies charting a post-pandemic fiscal path, it underlines the importance of prioritizing what to cut or tax carefully. Safeguarding expenditures that generate broad economic activity such as infrastructure, connectivity, health, and education is vital, as their removal can significantly set back growth and employment. On the other hand, strengthening revenues (for example, through fair and efficient taxation) or curbing less productive outlays can help improve fiscal balances with fewer side effects on recovery.

4. Conclusion: What This Means for Central Banks?

In summary, tailoring fiscal consolidation with an eye to fiscal multipliers can significantly improve outcomes in the post-pandemic recovery. A SAM-based analysis of Malaysia is likely reflective of many emerging economies. It demonstrates that how a deficit is reduced matters enormously for growth. Cutting expenditures like infrastructure or public wages may balance the books in the short run but at a high economic cost, whereas revenue measures and well-targeted savings do much less harm to output (Hall, 2012).

For SEACEN countries, these insights reinforce a policy message: protect the engines of growth even as you consolidate, and coordinate with monetary policy to keep the recovery on track. By doing so, central banks and fiscal authorities together can ensure that debt is brought down to safer levels without sacrificing the hard-won economic gains of the recovery.

For instance, if a government enacts a budget heavy on high-multiplier spending cuts, the central bank might consider a more accommodative stance (if inflation allows) to offset the growth shock. Conversely, if fiscal consolidation leans on low-multiplier measures like efficient taxation, the pressure on output and employment will be milder, allowing monetary policy to normalize more smoothly.

The aim should be a calibrated policy mix where fiscal tightening is sequenced and structured in a growth friendly way, and monetary policy supports a soft landing from the extraordinary stimulus of the pandemic period. This coordination will help sustain confidence in both price stability and debt sustainability.

The post-pandemic period offers a narrow window to reset fiscal health, however, getting the mix of measures right will determine how successfully our economies emerge stronger and more resilient.

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6. References

1. Acemoglu, D., and Johnson, S. (2007). Disease and development: The effect of life expectancy on economic growth. Journal of Political Economy, Vol. 115(6), 925-985.

2. Bajaro, D. F., Galimberti, J. K., & Qureshi, I. (2025). Monetary Policy Under Fiscal Stress: A Forward-Looking Analysis of Fiscal Dominance.

3. Batini, N., Eyraud, L., Forni, L., & Weber, A. (2014). Fiscal Multipliers: Size, Determinants, and Use in Macroeconomic Projections. IMF Technical Notes and Manuals.

4. Beyer, R. (2023). Shared Problem, Shared Solution: Benefits from Fiscal-Monetary Interactions in the Euro Area. IMF Working Paper, No. 149 (1).

5. Blanchard, O. (2025). Fiscal Policy as a Stabilization Tool: The Case for Quasi-Automatic Stabilizers, with an Application to the VAT. Peterson Institute for International Economics Working Paper No. 25–6.

6. Cardoso, D., Castro, G., & Costa, H. (2023). Social protection, fiscal multipliers, and economic activity: A multi-country analysis. Social Protection and Public Finance Management.

7. Chen, J. (2023). Can Fiscal Consolidation help Central Banks Fight Inflation? IMF Working Paper, Vol. (260)

8. Gechert, S. (2015). What fiscal policy is most effective? A meta-regression analysis. Oxford Economic Papers, 67(3), 553-580.

9. Hall, R. E. (2012). Fiscal austerity and economic growth. Hoover Institution, Stanford University. https://www.hoover.org/research/fiscal-austerity-and-economic-growth

10. MAS (2024). Policy Framework and Interactions Between Fiscal & Monetary Policy. Retrieved from https://www.mas.gov.sg.

11. Mihaljek, D. (2021). Interactions between fiscal and monetary policies: a brief history of a long relationship. Public Sector Economics, Vol. 45(4),

12. Ramey, V. (2019). Ten years after the financial crisis: What have we learned about the effects of fiscal policy?

13. Wang, Z. (2025). The Interplay Between Fiscal and Monetary Policy: Implications for Economic Stability. In Advances in economics, business and management research. Advances in Economics, Business and Management Research (p. 809). Atlantis Press.