Calculation of GDP elasticities of public expenditure and revenue for forecasting purposes and a discussion of their volatility: Study commissioned by the Bundesministerium der Finanzen (06/05)

The study is concerned with the quantification of the automatic impact of the cyclical economic development on individual components of the government budget as well as on the overall budget balance as is used for budget forecasts and in the calculation of the structural deficit. In a first step the study considers the revised OECD procedure, which is also used by the EPC Output Gap Working Group. The procedure is described in some detail, critically discussed, and applied to the case of Germany with the aim to replicate the results, to carry out specification tests, and to evaluate the robustness. Several boxes with examples illustrate the procedure and its interpretation. In a second step, an alternative approach is developed which relies in a consistent way on budgetary and tax revenue statistics. A final step provides some comparisons and conclusions with regard to the results, the explanatory power, and the information content of the alternative approaches. The proposed alternative approach confirms the impact of the cyclical economic development on the various budget components. For specific components it yields estimates that are quite different from the OECD approach. However, the resulting output elasticity of the budget balance confirms the result that an increase in GDP by about 1 percentage point above the trend value tends to reduce the budget deficit or increase the surplus by about 0.5% of GDP.