Tax more or spend less? Historical evidence from Switzerland’s federal budget plans

Are budget deficits eliminated by tax increases or by spending cuts? This paper provides a new perspective on this issue by analyzing fiscal plan data, as they are closely related to budget decisions of the legislative branch and are less correlated with macroeconomic developments during the fiscal year. We examine a novel historical dataset on Switzerland from 1850 to 2018 using (nonlinear) cointegration tests and error correction models. First, our historical analysis indicates that realized budget adjustments usually occurred through revenues and that fiscal plans are specifically crucial for short-term budget dynamics. Second, a recursive estimation approach shows that the adjustment relationships vary over time. In addition, our dynamic analysis provides evidence that budgetary imbalances are addressed by adjusting expenditures in plans in the last decades in contrast to realized adjustments, which benefited from underestimated revenues. However, initial indications suggest that the debt containment rule counteracts this asymmetry. Finally, from a policy perspective, our results stress the importance of fiscal plans in budget adjustment processes and the design properties of fiscal rules.