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Fiscal Consolidation and the Probability Distribution of Deficits: A Stochastic Analysis of the Stability Pact

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Author Info
A J Hughes Hallett
Peter McAdam ()

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Abstract

Using stochastic simulations, this paper analyses the probability distribution of a country's deficit ratio under fixed exchange rates and a variety of monetary policy rules. The purpose is to show how the probability of getting an "excessive deficit", defined as a deficit / GDP ratio in excess of 3% by Europe's Stability Pact, varies with different deficit target rules and different fiscal and monetary policy rules. We find that these fiscal ratios typically have a wide distribution, with fat tails and significantly longer tails on the upper side. That means fiscal targets may have to be country specific and conservative, and that fiscal policy has to be forward looking to keep the probability of excessive deficits below acceptable limits.

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File URL: ftp://ftp.ukc.ac.uk/pub/ejr/RePEc/ukc/ukcedp/0101.pdf
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Publisher Info
Paper provided by Department of Economics, University of Kent in its series Studies in Economics with number 0101.

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Date of creation: Jan 2001
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Handle: RePEc:ukc:ukcedp:0101

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Postal: Department of Economics, University of Kent at Canterbury, Canterbury, Kent, CT2 7NP
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Related research
Keywords: Fiscal cushion; Policy Reaction Functions; Stochastic simulations; Monetary union;

Find related papers by JEL classification:
E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization

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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.:
  1. Artis, Michael J & Buti, Marco, 2000. ""Close to Balance or in Surplus": A Policy Maker's Guide to the Implementation of the Stability and Growth Pact," CEPR Discussion Papers 2515, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  2. Salmon, Mark H, 1982. "Error Correction Mechanisms," Economic Journal, Royal Economic Society, vol. 92(367), pages 615-29, September. [Downloadable!] (restricted)
  3. Salmon, Mark, 1982. "Error Correction Mechanisms," The Warwick Economics Research Paper Series (TWERPS) 199, University of Warwick, Department of Economics.
  4. Mitchell, Peter R. & Sault, Joanne E. & Wallis, Kenneth F., 2000. "Fiscal policy rules in macroeconomic models: principles and practice," Economic Modelling, Elsevier, vol. 17(2), pages 171-193, April. [Downloadable!] (restricted)
  5. Paul R. Masson & Bart Turtelboom, 1997. "Characteristics of the Euro, the Demand for Reserves, and Policy Coordination Under EMU," IMF Working Papers 97/58, International Monetary Fund.
  6. Juillard, Michel & Laxton, Douglas & McAdam, Peter & Pioro, Hope, 1998. "An algorithm competition: First-order iterations versus Newton-based techniques," Journal of Economic Dynamics and Control, Elsevier, vol. 22(8-9), pages 1291-1318, August. [Downloadable!] (restricted)
  7. Hamid Faruqee & Peter Isard & Douglas Laxton & Eswar Prasad & Bart Turtelboom, 1998. "Multimod Mark III: The Core Dynamic and Steady State Model," IMF Occasional Papers 164, International Monetary Fund. [Downloadable!]
  8. McAdam, Peter & Hughes Hallett, A J, 1999. " Nonlinearity, Computational Complexity and Macroeconomic Modelling," Journal of Economic Surveys, Blackwell Publishing, vol. 13(5), pages 577-618, December. [Downloadable!] (restricted)
  9. repec:cup:cbooks:9780521264440 is not listed on IDEAS
  10. Roberto Perotti, 1999. "Fiscal Policy In Good Times And Bad," The Quarterly Journal of Economics, MIT Press, vol. 114(4), pages 1399-1436, November. [Downloadable!] (restricted)
  11. Mitchell, Peter R. & Sault, Joanne E. & Smith, Peter N. & Wallis, Kenneth F., 1998. "Comparing global economic models," Economic Modelling, Elsevier, vol. 15(1), pages 1-48, January. [Downloadable!] (restricted)
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