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What drives the short-run costs of fiscal consolidation? Evidence from OECD countries

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  • Ryan Niladri Banerjee
  • Fabrizio Zampolli

Abstract

In a panel of OECD countries, we investigate the short-term effects of fiscal consolidation on output and employment, and how these vary with the state of the business cycle, monetary policy, the level of public debt, the current account, and the strength of the financial cycle. The estimation makes use of local projection methods and fiscal consolidation shocks identified through the narrative approach. Our main finding is that short-term fiscal multipliers remain for the most part below unity, even in bad states, suggesting that important offsetting factors were at play in past consolidation episodes. In particular, we do not find evidence that fiscal multipliers are above unity when the output gap is negative or monetary policy is tight. Instead, we find evidence of lower than average multipliers when the current account is in deficit and public debt is high (although in the latter case employment costs tend to be larger). One factor found to raise the costs of fiscal consolidation is weak private credit growth. Even in this case, however, point estimates indicate that fiscal multipliers are not larger than one. Our results suggest that fiscal consolidation multipliers are not necessarily, or everywhere, larger than average in the aftermath of the global financial crisis.

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  • Ryan Niladri Banerjee & Fabrizio Zampolli, 2016. "What drives the short-run costs of fiscal consolidation? Evidence from OECD countries," BIS Working Papers 553, Bank for International Settlements.
  • Handle: RePEc:bis:biswps:553
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    4. Bardaka, Ioanna & Bournakis, Ioannis & Kaplanoglou, Georgia, 2021. "Total factor productivity (TFP) and fiscal consolidation: How harmful is austerity?," Economic Modelling, Elsevier, vol. 94(C), pages 908-922.
    5. Róbert Oravský & Peter Tóth & Anna Bánociová, 2020. "The Ability of Selected European Countries to Face the Impending Economic Crisis Caused by COVID-19 in the Context of the Global Economic Crisis of 2008," JRFM, MDPI, vol. 13(8), pages 1-17, August.
    6. Mark A. Carlson & Jonathan D. Rose, 2016. "Can a Bank Run Be Stopped? Government Guarantees and the Run on Continental Illinois," Finance and Economics Discussion Series 2016-3, Board of Governors of the Federal Reserve System (U.S.).
    7. Philip Arestis & Ayşe Kaya & Hüseyin Şen, 2018. "Does fiscal consolidation promote economic growth and employment? Evidence from the PIIGGS countries," European Journal of Economics and Economic Policies: Intervention, Edward Elgar Publishing, vol. 15(3), pages 289-312, November.

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    More about this item

    Keywords

    fiscal consolidation; fiscal multipliers; narrative approach; panel data; local projections;
    All these keywords.

    JEL classification:

    • H60 - Public Economics - - National Budget, Deficit, and Debt - - - General
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy

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