On the Long-Term Impact of a Fiscal Devaluation: An Application to the Portuguese Case
We use a dynamic general equilibrium model to quantify the likely long-term impact of a fiscal devaluation on the Portuguese economy. In a context of exogenous growth, and imposing an unchanged budget deficit to GDP ratio in the year the policy is enacted, we find that a tax swap worth 1 percent of steady-state GDP raises long-term income by as much as 1 percent, and still contributes towards fiscal consolidation, provided there are no cost of living adjustments. This permanent GDP gain is the result of a shift to a broader tax base, with fewer distortions, that then induces a faster accumulation of private capital. If all beneficiaries of public transfers and all civil servants are fully compensated for the increase in VAT, then a tax swap of the same magnitude raises long-term income by only 0.7 percent, and public indebtedness is not significantly altered. We also find that larger fiscal devaluations yield less-than-proportional GDP gains. The fact that fiscal devaluations are rather disappointing in raising the level of GDP can be traced back to a small net reduction in the overall labor tax wedge. This suggests that policymakers need to look elsewhere in their quest for efficient tax reforms.
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- Alfredo Marvão Pereira & Rui M. Pereira, 2014. "What is it going to take to achieve 2020 Emission Targets? Marginal abatement cost curves and the budgetary impact of CO2 taxation in Portugal (," Working Papers 105, Department of Economics, College of William and Mary.
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