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Fiscal Rules as Bargaining Chips

Author

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  • Facundo Piguillem

    (EIEF)

  • Alessandro Riboni

    (Ecole Polytechnique and CREST)

Abstract

Most fiscal rules can be overridden by consensus.We show that the possibility of overridding does not make fiscal rules ineffectual. Since fiscal rules determine the outside option in case of disagreement, the opposition uses fiscal rules as “bargaining chips”. The party in power offers spending concessions to the opposition to avoid the application of the fiscal rule. This political bargain reduces the incentive for inefficient debt accumulation. We analyze three standard fiscal rules: government shutdown, budget balance and mandatory spending, and show that when political polarization is high, a government shutdown provision maximizes the bargaining power of the opposition and leads to a sizeable reduction of debt. When the degree of polarization is low, a balanced budget rule is preferable. Mandatory spending eliminates the incentive to over-accumulate debt by reducing political risk. However, it gives a considerable advantage to the initial incumbent, generating large and persistent static inefficiencies.

Suggested Citation

  • Facundo Piguillem & Alessandro Riboni, 2018. "Fiscal Rules as Bargaining Chips," EIEF Working Papers Series 1804, Einaudi Institute for Economics and Finance (EIEF), revised Mar 2018.
  • Handle: RePEc:eie:wpaper:1804
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    Cited by:

    1. Marina Azzimonti & Laura Karpuska & Gabriel Mihalache, 2020. "Bargaining over Mandatory Spending and Entitlements," Department of Economics Working Papers 20-02, Stony Brook University, Department of Economics.
    2. Hülya Eraslan & Kirill Evdokimov & Jan Zápal, 2020. "Dynamic Legislative Bargaining," ISER Discussion Paper 1090, Institute of Social and Economic Research, Osaka University.

    More about this item

    JEL classification:

    • D72 - Microeconomics - - Analysis of Collective Decision-Making - - - Political Processes: Rent-seeking, Lobbying, Elections, Legislatures, and Voting Behavior
    • H2 - Public Economics - - Taxation, Subsidies, and Revenue
    • H6 - Public Economics - - National Budget, Deficit, and Debt

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