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Fiscal policy in Europe: The importance of making it predictable

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  • Cavallari, Lilia
  • Romano, Simone

Abstract

This paper provides evidence in support of the hypothesis that fiscal policy is largely anticipated and its effects depend on the extent to which policy is able to affect expectations. Based on a set of 2-country Bayesian VAR models between major European economies, we find that a surprise stimulus triggers expectations of deficit reversals that may crowd out private expenditure. An anticipated stimulus, on the contrary, is found to boost domestic activity in all samples. Moreover, it has positive cross-border effects in 50 percent of the cases. Overall, our findings suggest that fiscal policy is effective when it is not “crowded out” by expectations of reversals. We document such crowding out effects in Italy and France. Finally, we argue that predictability has important consequences for the design of discretionary policy.

Suggested Citation

  • Cavallari, Lilia & Romano, Simone, 2017. "Fiscal policy in Europe: The importance of making it predictable," Economic Modelling, Elsevier, vol. 60(C), pages 81-97.
  • Handle: RePEc:eee:ecmode:v:60:y:2017:i:c:p:81-97
    DOI: 10.1016/j.econmod.2016.09.008
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    Cited by:

    1. Mencinger, Jernej & Aristovnik, Aleksander & Verbič, Miroslav, 2017. "Asymmetric effects of fiscal policy in EU and OECD countries," Economic Modelling, Elsevier, vol. 61(C), pages 448-461.
    2. Landon, Stuart & Smith, Constance, 2017. "Does the design of a fiscal rule matter for welfare?," Economic Modelling, Elsevier, vol. 63(C), pages 226-237.
    3. Marian Zaharia & Aurelia Pătrașcu & Manuela Rodica Gogonea & Ana Tănăsescu & Constanța Popescu, 2017. "A Cluster Design on the Influence of Energy Taxation in Shaping the New EU-28 Economic Paradigm," Energies, MDPI, Open Access Journal, vol. 10(2), pages 1-21, February.
    4. Karlis Vilerts & Olegs Tkacevs, 2016. "The Impact of Sovereign Bond Yields on Fiscal Discipline," Working Papers 2016/05, Latvijas Banka.
    5. Rougé Jean-François & Chopov Borislav, 2016. "Hypercompetition & Fiscal Attractiveness," Economics, De Gruyter Open, vol. 4(2), pages 75-93, December.
    6. repec:eee:ecmode:v:68:y:2018:i:c:p:372-387 is not listed on IDEAS
    7. repec:eee:ecmode:v:64:y:2017:i:c:p:473-486 is not listed on IDEAS

    More about this item

    Keywords

    Fiscal policy; VAR model; Fiscal spillovers; Fiscal multiplier;

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
    • F45 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Macroeconomic Issues of Monetary Unions
    • H62 - Public Economics - - National Budget, Deficit, and Debt - - - Deficit; Surplus

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