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Deficit Limits, Budget Rules and Fiscal Policy

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  • Paolo Manasse

    (Universita' di Bologna &IMF)

Abstract

The paper presents a simple model for discussing the effects of deficit limits and budget rules on fiscal policy. I find that limits on deficit- output ratios provide incentives to implement procyclical policies when the economy is in intermediate states, and countercyclical policies only in very “good” and very “bad” economic times. As a result, fiscal “reaction functions” are not monotonically related to the state of the economy. Deficit limits are found to exert discipline only provided the limit is tight and the expected sanction large, albeit at a relatively large welfare cost. Moreover, when fiscal choices are made under a veil of ignorance about the output gap, an increase in volatility is likely to raise the level of the budget deficit. Finally, concerning the design of fiscal frameworks, when excessive deficits arise from a political bias, deficit limits should be symmetric and not state-contingent.

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Bibliographic Info

Paper provided by EconWPA in its series Macroeconomics with number 0509011.

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Date of creation: 06 Sep 2005
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Handle: RePEc:wpa:wuwpma:0509011

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Web page: http://128.118.178.162

Related research

Keywords: Fiscal Rules; SGP; Pro-cyclical Fiscal Policy;

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References

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  1. Martin Feldstein, 2005. "The Euro and the Stability Pact," NBER Working Papers 11249, National Bureau of Economic Research, Inc.
  2. L. Bottazzi & P. Manasse, 2002. "Asymmetric Information and Monetary Policy in Common Currency Areas," Working Papers 444, Dipartimento Scienze Economiche, Universita' di Bologna.
  3. Massimo Bordignon & Paolo Manasse & Guido Tabellini, 2001. "Optimal Regional Redistribution under Asymmetric Information," American Economic Review, American Economic Association, vol. 91(3), pages 709-723, June.
  4. Persson, Torsten & Roland, Gérard & Tabellini, Guido, 2004. "How do Electoral Rules Shape Party Structures, Government Coalitions and Economic Policies?," CEPR Discussion Papers 4226, C.E.P.R. Discussion Papers.
  5. Grossman, G.M. & Helpman, E., 1992. "Protection for Sale," Papers 162, Princeton, Woodrow Wilson School - Public and International Affairs.
  6. Graciela L. Kaminsky & Carmen M. Reinhart & Carlos A. Végh, 2005. "When It Rains, It Pours: Procyclical Capital Flows and Macroeconomic Policies," NBER Chapters, in: NBER Macroeconomics Annual 2004, Volume 19, pages 11-82 National Bureau of Economic Research, Inc.
  7. Manasse, Paolo, 1996. "Are taxes too low?," Journal of Economic Dynamics and Control, Elsevier, vol. 20(6-7), pages 1263-1288.
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Cited by:
  1. Paolo Manasse & Ugo Panizza & Laura Dos Reis, 2007. "Targeting the Structural Balance ," IDB Publications 6722, Inter-American Development Bank.
  2. Xavier Debrun & Manmohan S. Kumar, 2007. "The Discipline-Enhancing Role of Fiscal Institutions," IMF Working Papers 07/171, International Monetary Fund.
  3. Jacopo Cimadomo, 2012. "Fiscal Policy in Real Time," Scandinavian Journal of Economics, Wiley Blackwell, vol. 114(2), pages 440-465, 06.
  4. Paolo Manasse, 2006. "Procyclical Fiscal Policy," IMF Working Papers 06/27, International Monetary Fund.
  5. Håvard Halland & Michael Bleaney, . "Explaining The Procyclicality of Fiscal Policy in Developing Countries," Discussion Papers 11/09, University of Nottingham, CREDIT.

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