Fiscal policy and inflation volatility

Among the harmful effects of inflation, the negative consequences of inflation volatility are of particular concern. These include higher risk premia, hedging costs and unforeseen redistribution of wealth. This paper presents panel estimations for a sample of OECD countries which suggest that activist fiscal policies may have an important impact on CPI inflation volatility. Major results are robust for unconditional and conditional inflation volatility, the latter derived from country-specific GARCH models, and across different data frequencies, time periods and econometric methodologies. From a policy perspective, these results point to the possibility of further destabilising effects of discretionary fiscal policies, in addition to their potential to destabilise output. JEL Classification: E31, E62Fiscal Policy, inflation volatility

The impact of high and growing government debt on economic growth: an empirical investigation for the euro area

This paper investigates the average impact of government debt on per-capita GDP growth in twelve euro area countries over a period of about 40 years starting in 1970. It finds a non-linear impact of debt on growth with a turning point—beyond which the government debt-to-GDP ratio has a deleterious impact on long-term growth—at about 90-100% of GDP. Confidence intervals for the debt turning point suggest that the negative growth effect of high debt may start already from levels of around 70-80% of GDP, which calls for even more prudent indebtedness policies. At the same time, there is evidence that the annual change of the public debt ratio and the budget deficit-to-GDP ratio are negatively and linearly associated with per-capita GDP growth. The channels through which government debt (level or change) is found to have an impact on the economic growth rate are: (i) private saving; (ii) public investment; (iii) total factor productivity (TFP) and (iv) sovereign long-term nominal and real interest rates. From a policy perspective, the results provide additional arguments for debt reduction to support longer-term economic growth prospects. JEL Classification: H63, O40, E62, E43Economic Growth, Fiscal Policy, public debt, sovereign long-term interest rates

Major public debt reductions: Lessons from the past, lessons for the future

The financial crisis of 2008/2009 has left European economies with a sizeable public debt stock bringing back the question what factors help to reduce these fiscal imbalances. Using data for the period 1985-2009 this paper identifies factors determining major public debt reductions. On average, the total debt reduction per country amounted to almost 37 percentage points of GDP. We estimate several specifications of a logistic probability model. Our findings suggest that, first, major debt reductions are mainly driven by decisive and lasting (rather than timid and short-lived) fiscal consolidation efforts focused on reducing government expenditure, in particular, cuts in social benefits and public wages. Second, robust real GDP growth also increases the likelihood of a major debt reduction because it helps countries to "grow their way out" of indebtedness. Third, high debt servicing costs play a disciplinary role strengthened by market forces and require governments to set up credible plans to stop and reverse the increasing debt ratios. JEL Classification: C35, E62, H6binary choice models, Fiscal Policy, public debt

What “hides” behind sovereign debt ratings?

In this paper we study the determinants of sovereign debt credit ratings using rating notations from the three main international rating agencies, for the period 1995-2005. We employ panel estimation and random effects ordered probit approaches to assess the explanatory power of several macroeconomic and public governance variables. Our results point to a good performance of the estimated models, across agencies and across the time dimension, as well as a good overall prediction power. Relevant explanatory variables for a country's credit rating are: GDP per capita, GDP growth, government debt, government effectiveness indicators, external debt, external reserves, and default history. JEL Classification: C23, C25, E44, F30, F34, G15, H63credit ratings, panel data, random effects ordered probit, rating agencies, sovereign debt

Fiscal consolidations in the Central and Eastern European countries

We study fiscal consolidations in the Central and Eastern European countries and what determines the probability of their success. We define consolidation events as substantive improvements in fiscal balances adjusting for the impact of cyclical effects. We use Logit models for the period 1991–2003 to assess the determinants of the success of a fiscal adjustment. The results seem to suggest that for these countries expenditure based consolidations have tended to be more successful. By contrast, revenue based consolidations have a tendency to be less successful. JEL Classification: C25, E62, H62central and eastern Europe, fiscal episodes, Fiscal Policy, Logit models

What “Hides” Behind Sovereign Debt Ratings?

In this paper we study the determinants of sovereign debt credit ratings using rating notations from the three main international rating agencies, for the period 1995-2005. We employ panel estimation and random effects ordered probit approaches to assess the explanatory power of several macroeconomic and public governance variables. Our results point to a good performance of the estimated models, across agencies and across the time dimension, as well as a good overall prediction power. Relevant explanatory variables for a country's credit rating are: GDP per capita, GDP growth, government debt, government effectiveness indicators, external debt, external reserves, and default history.credit ratings; sovereign debt; rating agencies; panel data; random effects ordered probit.

Population ageing and public pension reforms in a small open economy

This paper aims to address the issue of public pension reforms under demographic ageing that is likely to occur in Europe over the next 50 years. Three possible scenarios are analysed in a Blanchard OLG framework. These include: i) a decrease both in public pensions and the lump sum labour income tax, ii) a decrease both in public pensions and the distortionary corporate tax, iii) an increase in the retirement age. The analysis focuses on the effects of these fiscal policies on key economic variables such as consumption, private and public debt, output and wages. Quantitative experiments assess the impact of different fiscal policies in terms of public debt sustainability but most importantly suggest policies that smooth the transition of the economy to the new equilibrium. The main results suggest that the adverse effects of pension reforms on consumption are moderated when they are accompanied by appropriate taxation policies. In particular, when the tax response is rapid most of the adverse movement in consumption is avoided while public and national debt reach lower equilibrium levels. JEL Classification: E6, H3, J1, H55Ageing, overlapping generations, Pension Reforms, Taxation

Ordered Response Models for Sovereign Debt Ratings

Using ordered logit and probit plus random effects ordered probit approaches, we study the determinants of sovereign debt ratings. We found that the last procedure is the best for panel data as it takes into account the additional cross-section error.ordered probit; ordered logit; random effects ordered probit; sovereign rating.

Fiscal variables and bond spreads: evidence from eastern European countries and Turkey

We investigate the impact of fiscal variables on bond yield spreads relative to US Treasury bonds in the Czech Republic, Hungary, Poland, Russia and Turkey from May 1998 to December 2007. To account for the importance of market expectations we use projected values for fiscal and macroeconomic variables generated from Consensus Economics Forecasts. Moreover, we compare results from panel regressions with those from country (seemingly unrelated regression) estimates, and conduct analogous regressions for a control group of Latin American countries. We find that the role of the individual explanatory variables, including the importance of fiscal variables, varies across countries. JEL Classification: C33, E43, E62, H62Budget deficits, determination of interest rates, Eastern European countries, Fiscal Policy

The impact of numerical expenditure rules on budgetary discipline over the cycle

We study the impact of numerical expenditure rules on the propensity of governments to deviate from expenditure targets in response to surprises in cyclical conditions. Theoretical considerations suggest that due to political fragmentation in the budgetary process expenditure policy might be prone to a pro-cyclical bias. However, this tendency may be mitigated by numerical expenditure rules. These hypotheses are tested against data from a panel of EU Member States. Our key findings are that (i) deviations between actual and planned government expenditure are positively related to unanticipated changes in the output gap, and (ii) numerical expenditure rules reduce this pro-cyclical bias. Moreover, the pro-cyclical spending bias is found to be particularly pronounced for spending items with a high degree of budgetary flexibility. JEL Classification: C23, E62, H50expenditure rules, fiscal discipline, spending bias, stabilisation