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The "Austerity Myth": Gain without Pain?

In: Fiscal Policy after the Financial Crisis

  • Roberto Perotti

As governments around the world contemplate slashing budget deficits, the "expansionary fiscal consolidation hypothesis" is back in vogue. I argue that, as a statement about the short run, it should be taken with caution. I present four detailed case studies, two - Denmark and Ireland - undertaken under fixed exchange rates (the most relevant case for many Eurozone countries today) and two - Finland and Sweden - after floating the currency. All four episodes were associated with an expansion; but only in Denmark the driver of growth was internal demand. However, after three years a long slump set in as the economy lost competitiveness. In all the others for a long time the main driver of growth was exports. In Ireland this occurred because the sterling coincidentally appreciated. In Finland and Sweden the currency experienced an extremely large depreciation after floating. In all consolidations interest rate fell fast, and wage moderation played a key role in generating a gain competitiveness and a decline in interest rates. These results cast doubt on at least some versions of the "expansionary fiscal consolidations" hypothesis.

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This chapter was published in:
  • Alberto Alesina & Francesco Giavazzi, 2013. "Fiscal Policy after the Financial Crisis," NBER Books, National Bureau of Economic Research, Inc, number ales11-1, May.
  • This item is provided by National Bureau of Economic Research, Inc in its series NBER Chapters with number 12652.
    Handle: RePEc:nbr:nberch:12652
    Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
    Phone: 617-868-3900
    Web page: http://www.nber.org
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    1. Stéphanie Guichard & Mike Kennedy & Eckhard Wurzel & Christophe André, 2007. "What Promotes Fiscal Consolidation: OECD Country Experiences," OECD Economics Department Working Papers 553, OECD Publishing.
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