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Fiscal Incentive Effects of the German Equalization System

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  • Sven Jari Stehn
  • Annalisa Fedelino

Abstract

Does reliance on transfers weaken fiscal discipline and encourage pro-cyclical fiscal policies in recipient subnational governments? Using fiscal reaction functions for a panel of the German Länder, this paper finds a positive answer to both questions. Net-recipient states (Länder, benefiting from the transfer system) have not reduced primary expenditure significantly in response to rising deficits, but have instead relied on vertical transfers from the federal government to ensure debt sustainability. Moreover, they have pursued pro-cyclical policies, particularly by raising expenditures in good times. Net-contributing Länder (paying into the transfer system), in contrast, have ensured fiscal sustainability through spending adjustments; they have also been less pro-cyclical. Panel vector auto-regressions confirm these findings.

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Bibliographic Info

Paper provided by International Monetary Fund in its series IMF Working Papers with number 09/124.

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Length: 29
Date of creation: 01 Jun 2009
Date of revision:
Handle: RePEc:imf:imfwpa:09/124

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Keywords: Data analysis; Economic models; Fiscal reforms; Fiscal sustainability; Government expenditures; Tax reforms; fiscal policy; expenditure; primary expenditure; budget constraint; fiscal variables; fiscal discipline; expenditures; fiscal equalization; fiscal relations; fiscal reaction functions; fiscal reaction; fiscal policies; government expenditure; fiscal indiscipline; budget balance; budget deficit; tax revenue; fiscal federalism; fiscal behavior; intergovernmental fiscal; fiscal decentralization; intergovernmental fiscal relations; public debt; fiscal rules; tax rates; tax administration; fiscal rule; tax bases; tax base; public expenditures; expenditure policy; budget constraints; budgetary rules; public finances; fiscal adjustment; fiscal equalization system; tax revenues; public finance; government spending; fiscal incentives; local taxes; fiscal incentive; fiscal developments; cyclical fiscal policies; fiscal relationship; fiscal responsibility; fiscal imbalance; fiscal imbalances; fiscal policy decisions; fiscal standpoint; structural adjustment; fiscal equilibrium; fiscal affairs department; expenditure policies; dynamic fiscal adjustment; central government fiscal; fiscal transfer system; tax structure; state expenditures; pro-cyclical policies; fiscal transfer; fiscal transfers; municipal fiscal adjustment; fiscal variable; fiscal affairs; subnational spending; state budget; tax collection; local revenues; fiscal distress; fiscal space; fiscal perspective; fiscal data; fiscal instruments; tax policy; expenditure adjustment; fiscal studies; fiscal positions;

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References

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  1. Hauptmeier, Sebastian, 2007. "The Impact of Fiscal Equalization on Local Expenditure Policies: Theory and Evidence from Germany," ZEW Discussion Papers 07-081, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
  2. Thiess Buettner, 2007. "Equalization Transfers and Dynamic Fiscal Adjustment: Results for German Municipalities and a US-German Comparison," Working Papers 2007-07, University of Kentucky, Institute for Federalism and Intergovernmental Relations.
  3. Galí, Jordi & Perotti, Roberto, 2003. "Fiscal Policy and Monetary Integration in Europe," CEPR Discussion Papers 3933, C.E.P.R. Discussion Papers.
  4. Helge Berger & Anika Holler, 2007. "What Determines Fiscal Policy? Evidence from German States," CESifo Working Paper Series 2062, CESifo Group Munich.
  5. Thiess Buettner & David E. Wildasin, 2002. "The Dynamics of Municipal Fiscal Adjustment," CESifo Working Paper Series 649, CESifo Group Munich.
  6. Jonathan A. Rodden & Gunnar S. Eskeland (ed.), 2003. "Fiscal Decentralization and the Challenge of Hard Budget Constraints," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262182297, December.
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  8. Heppke-Falk, Kirsten H. & Wolff, Guntram B., 2007. "Moral hazard and bail-out in fiscal federations: evidence for the German Länder," Discussion Paper Series 1: Economic Studies 2007,07, Deutsche Bundesbank, Research Centre.
  9. Jan Werner, 2008. "Fiscal Equalisation among the states in Germany," Working Papers 02-2008, Institute of Local Public Finance.
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Citations

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Cited by:
  1. Alexander Fink & Thomas Stratmann, 2009. "Institutionalized Bailouts and Fiscal Policy: The Consequences of Soft Budget Constraints," CESifo Working Paper Series 2827, CESifo Group Munich.
  2. Heinemann, Friedrich & Janeba, Eckhard & Moessinger, Marc-Daniel & Schröder, Christoph, 2013. "Revenue autonomy preference in German state parliaments," ZEW Discussion Papers 13-090, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
  3. Emilia Mioara CAMPEANU, 2012. "How can be investigated the fiscal policy effects on the Romanian economy?," Anale. Seria Stiinte Economice. Timisoara, Faculty of Economics, Tibiscus University in Timisoara, vol. 0, pages 80-87, May.
  4. Carlos Seixas & António Brandão & Manuel Luís Costa, 2013. "Policy Choices by an Incumbent - A Case with Down-Up Problem, Bias Beliefs and Retrospective Voting," FEP Working Papers 485, Universidade do Porto, Faculdade de Economia do Porto.
  5. Yeti Nisha Madhoo & Shyam Nath, 2010. "Beneficiary Charges: The Cinderella of Subnational Finance," International Center for Public Policy Working Paper Series, at AYSPS, GSU paper1317, International Center for Public Policy, Andrew Young School of Policy Studies, Georgia State University.
  6. Ivo Bischoff & Lars-H. Siemers, 2013. "Biased beliefs and retrospective voting: why democracies choose mediocre policies," Public Choice, Springer, vol. 156(1), pages 163-180, July.
  7. Stegarescu, Dan, 2013. "Does expenditure composition influence the debt level? Evidence from German federal states," Discussion Papers 52/2013, Deutsche Bundesbank, Research Centre.

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