Advanced Search
MyIDEAS: Login

The "Austerity Myth": Gain without Pain?

Contents:

Author Info

  • Roberto Perotti
Registered author(s):

    Abstract

    As governments around the world contemplate slashing budget deficits, the “expansionary fiscal consolidation hypothesis” is back in vogue. I argue that, as a statement about the short run, it should be taken with caution. Alesina and Perotti (1995) and Alesina and Ardagna (2010) (AAP) have argued that, contrary to conventional wisdom, fiscal consolidations may be expansionary if implemented mainly by cutting government spending. IMF (2010) criticizes the data used by AAP and shows that all consolidations are contractionary in the short run. I argue that this criticism is correct in principle, and that there are other important limitations in the AAP methodology. However, the implementation of the IMF methodology has several problems of its own, that make an interpretation of the IMF results difficult. I then argue that because of the multi?year nature of the large fiscal consolidations, which are precisely those that can tell us more on the mechanisms at work, using yearly panels of annual data is limiting. I present four detailed case studies of fiscal consolidations, two (Denmark and Ireland) carried out under fixed exchange rates (arguably the most relevant case for many European countries today) and two (Finland and Sweden) after floating the currency. All four consolidations were associated with an expansion; but only in Denmark the driver of growth was internal demand. However, as in most exchange rate based stabilizations, after three years a long slump set in as the economy lost competitiveness. In the other episodes for a long time the main driver of growth was exports. In the second exchange rate based stabilization, Ireland, this occurred because the sterling coincidentally appreciated. In Finland and Sweden the currency experienced an extremely large depreciation after floating. In all consolidations interest rate fell fast, and wage moderation played a key role in ensuring competitiveness and allowing the decrease in interest rates. Wage moderation was supported by incomes policies that saw the direct in tervention of the government in the wage negotiation process. These results cast doubt on at least some versions of the “expansionary fiscal consolidations” hypothesis, and on its applicability to many countries in the present circumstances. A depreciation is not available to EMU members today (except vis à vis countries outside the Eurozone). The current account channel is not available to the world as a whole. A further decline in interest rates is unlikely in the current situation. And incomes policies are not popular nowadays; moreover, international experience, and the Danish case, suggest that they are ineffective after a few years.

    Download Info

    If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
    File URL: ftp://ftp.igier.unibocconi.it/wp/2011/430.pdf
    Download Restriction: no

    Bibliographic Info

    Paper provided by IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University in its series Working Papers with number 430.

    as in new window
    Length:
    Date of creation: 2011
    Date of revision:
    Handle: RePEc:igi:igierp:430

    Contact details of provider:
    Postal: via Rontgen, 1 - 20136 Milano (Italy)
    Phone: 0039-02-58363301
    Fax: 0039-02-58363302
    Web page: http://www.igier.unibocconi.it/

    Order Information:
    Email:
    Web: http://www.igier.unibocconi.it/en/papers/index.htm

    Related research

    Keywords:

    References

    References listed on IDEAS
    Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
    as in new window
    1. Stéphanie Guichard & Mike Kennedy & Eckhard Wurzel & Christophe André, 2007. "What Promotes Fiscal Consolidation: OECD Country Experiences," OECD Economics Department Working Papers 553, OECD Publishing.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as in new window

    Cited by:
    1. Steinar Holden, 2012. "Implications of insights from behavioral economics for macroeconomic models," IMK Working Paper 99-2012, IMK at the Hans Boeckler Foundation, Macroeconomic Policy Institute.
    2. Olivier J. Blanchard & Giovanni Dell'Ariccia & Paolo Mauro, 2013. "Rethinking Macro Policy II," IMF Staff Discussion Notes 13/003, International Monetary Fund.
    3. Nicholas Apergis & Arusha Cooray, 2013. "Forecasting fiscal variables: Only a strong growth plan can sustain the Greek austerity programs-Evidence from simultaneous and structural models," CAMA Working Papers 2013-25, Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University.
    4. Alberto F. Alesina & Dorian Carloni & Giampaolo Lecce, 2011. "The Electoral Consequences of Large Fiscal Adjustments," NBER Working Papers 17655, National Bureau of Economic Research, Inc.
    5. Branimir Jovanovic, 2012. "How Policy Actions Affect Short-term Post-crisis Recovery?," CEIS Research Paper 253, Tor Vergata University, CEIS, revised 05 Oct 2012.
    6. A. Affuso & V. Bravi, 2014. "La spesa pubblica in Italia prima e dopo la crisi," Economics Department Working Papers 2014-EP01, Department of Economics, Parma University (Italy).
    7. Manfred Overhaus & Ulrich Maas & Aiginger. Karl & Margit Schratzenstaller-Altzinger, 2012. "Weg aus dem Schuldenhaushalt: Ist eine Tilgung der Staatsschulden möglich?," Ifo Schnelldienst, Ifo Institute for Economic Research at the University of Munich, vol. 65(05), pages 03-14, 03.
    8. T. Buyse & F. Heylen, 2012. "Leaving the empirical (battle)ground: Output and welfare effects of fiscal consolidation in general equilibrium," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 12/826, Ghent University, Faculty of Economics and Business Administration.
    9. Borys, Paweł & Ciżkowicz, Piotr & Rzońca, Andrzej, 2013. "Panel data evidence on effects of fiscal impulses in the EU New Member States," MPRA Paper 48243, University Library of Munich, Germany.
    10. Riccardo Fiorentini & Guido Montani, 2013. "Beyond Austerity A European Recovery Policy Is Feasible," Working Papers 06/2013, University of Verona, Department of Economics.
    11. Niamh Hardiman & Muiris MacCarthaigh, 2013. "How Governments Retrench In Crisis: The Case of Ireland," Working Papers 201315, Geary Institute, University College Dublin.
    12. Jesús Ferreiro & Carmen Gómez & Felipe Serrano, 2013. "Mistakes in the Fiscal Policy in Spain before the Crisis," Panoeconomicus, Savez ekonomista Vojvodine, Novi Sad, Serbia, vol. 60(5), pages 577-592, September.
    13. Bernd Hayo & Florian Neumeier, 2013. "Public Attitudes Toward Fiscal Consolidation: Evidence from a Representative German Population Survey," MAGKS Papers on Economics 201351, Philipps-Universität Marburg, Faculty of Business Administration and Economics, Department of Economics (Volkswirtschaftliche Abteilung).
    14. Paweł Borys & Piotr Ciżkowicz & Andrzej Rzońca, 2013. "Panel data evidence on the effects of fiscal impulses in the EU New Member States," National Bank of Poland Working Papers 161, National Bank of Poland, Economic Institute.
    15. Sebastian Dullien, 2012. "Is new always better than old? On the treatment of fiscal policy in Keynesian models," Review of Keynesian Economics, Edward Elgar, vol. 1(0), pages 5-23.

    Lists

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    Statistics

    Access and download statistics

    Corrections

    When requesting a correction, please mention this item's handle: RePEc:igi:igierp:430. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: ().

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If references are entirely missing, you can add them using this form.

    If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.