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Fiscal Divergence and Business Cycle Synchronization: Irresponsibility is Idiosyncratic

In: NBER International Seminar on Macroeconomics 2005

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  • Zsolt Darvas
  • Andrew K. Rose
  • Gyorgy Szapary

Abstract

Using a panel of 21 OECD countries and 40 years of annual data, we find that countries with similar government budget positions tend to have business cycles that fluctuate more closely. That is, fiscal convergence (in the form of persistently similar ratios of government surplus/deficit to GDP) is systematically associated with more synchronized business cycles. We also find evidence that reduced fiscal deficits increase business cycle synchronization. The Maastricht 'convergence criteria', used to determine eligibility for EMU, encouraged fiscal convergence and deficit reduction. They may thus have indirectly moved Europe closer to an optimum currency area, by reducing countries' abilities to create idiosyncratic fiscal shocks. Our empirical results are economically and statistically significant, and robust.

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This chapter was published in:

  • Jeffrey A. Frankel & Christopher Pissarides, 2007. "NBER International Seminar on Macroeconomics 2005," NBER Books, National Bureau of Economic Research, Inc, number fran07-1.
    This item is provided by National Bureau of Economic Research, Inc in its series NBER Chapters with number 0358.

    Handle: RePEc:nbr:nberch:0358

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    1. Todd E. Clark & Eric van Wincoop, 1999. "Borders and business cycles," Research Working Paper 99-07, Federal Reserve Bank of Kansas City.
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    5. Darvas, Zsolt & Rose, Andrew K & Szapáry, György, 2005. "Fiscal Divergence and Business Cycle Synchronization: Irresponsibility is Idiosyncratic," CEPR Discussion Papers 5188, C.E.P.R. Discussion Papers.
    6. Fatás, Antonio & Mihov, Ilian, 2002. "The Case for Restricting Fiscal Policy Discretion," CEPR Discussion Papers 3277, C.E.P.R. Discussion Papers.
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