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Fiscal delegation in a monetary union with decentralized public spending

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  • Henrique S. Basso

    ()
    (Banco de España)

  • James Costain

    ()
    (Banco de España)

Abstract

This paper studies the effects of delegating control of sovereign debt issuance to an independent authority in a monetary union where public spending decisions are decentralized. The model assumes that no policy makers are capable of commitment to a rule. However, consistent with Rogoff (1985) and with the recent history of central banking, it assumes that an institution may be designed to have a strong preference for achieving some clear, simple, quantitative policy goal. Following Beetsma and Bovenberg (1999), we show that in a monetary union where a single central bank interacts with many member governments, debt is excessive relative to a social planner’s solution. We extend their analysis by considering the establishment of an independent fiscal authority (IFA) mandated to maintain long-run budget balance. We show that delegating sovereign debt issuance to an IFA in each member state shifts down the time path of debt, because this eliminates aspects of deficit bias inherent in democratic politics. Delegating to a single IFA at the union level lowers debt further, because common pool problems across regions’ deficit choices are internalized. The establishment of a federal government with fiscal powers over the whole monetary union would be less likely to avoid excessive deficits, because only the second mechanism mentioned above would apply. Moreover, the effective level of public services would be lower, if centralized spending decisions are less informationally efficient

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Bibliographic Info

Paper provided by Banco de Espa�a in its series Banco de Espa�a Working Papers with number 1311.

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Length: 63 pages
Date of creation: Sep 2013
Date of revision:
Handle: RePEc:bde:wpaper:1311

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Keywords: fi scal authority; delegation; decentralization; monetary union; sovereign debt;

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  1. Adam, Klaus & Billi, Roberto M, 2006. "Monetary Conservatism and Fiscal Policy," CEPR Discussion Papers 5740, C.E.P.R. Discussion Papers.
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  9. Costain, James & de Blas, Beatriz, 2012. "The role of fiscal delegation in a monetary union: a survey of the political economy issues," Working Papers in Economic Theory 2012/11, Universidad Autónoma de Madrid (Spain), Department of Economic Analysis (Economic Theory and Economic History).
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  12. Rudiger Dornbusch, 1997. "Brazil's Incomplete Stabilization and Reform," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 28(1), pages 367-404.
  13. Barry Eichengreen & Charles Wyplosz, 1998. "The Stability Pact: more than a minor nuisance?," Economic Policy, CEPR & CES & MSH, vol. 13(26), pages 65-113, 04.
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