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Sustainability of European fiscal balances: Just a statistical artifact?

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  • Malte Rengel

    (Georg-August-University Göttingen)

Abstract

The European debt crisis has emphasized the importance of a reliable assessment of the sustainability of fiscal balances. The literature on policy reaction functions interprets debt as sustainable if a rising debt-to-GDP ratio invokes a positive reaction in the primary surplus. In this study, I show in a panel framework that the persistence of debt-to-GDP ratios and the correlation of respective innovations with primary surpluses generate size distortions of t-tests for common policy reaction coefficients. An analysis of European data prior to 2009 reveals that these size distortions can potentially cause conventional inference techniques to spuriously signal sustainability of fiscal balances. In contrast, size-corrected bootstrap-based critical values allow for a timely detection of increased solvency risk.

Suggested Citation

  • Malte Rengel, 2020. "Sustainability of European fiscal balances: Just a statistical artifact?," Empirical Economics, Springer, vol. 58(4), pages 1681-1712, April.
    • Handle: RePEc:spr:empeco:v:58:y:2020:i:4:d:10.1007_s00181-018-1567-8
    DOI: 10.1007/s00181-018-1567-8
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    More about this item

    Keywords

    Public debt; Sustainability; Panel data; Second-order bias; Wild bootstrap; Predictive regressions;
    All these keywords.

    JEL classification:

    • C12 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Hypothesis Testing: General
    • C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Spatio-temporal Models
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • H62 - Public Economics - - National Budget, Deficit, and Debt - - - Deficit; Surplus
    • H68 - Public Economics - - National Budget, Deficit, and Debt - - - Forecasts of Budgets, Deficits, and Debt

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