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Does the Enlarged European Union Need a Better Fiscal Pact?



In this paper, we set out to examine an efficient fiscal policy framework for a monetary union. We find that a monetary union can survive with diverging fiscal policies and that the financial markets are efficient enough to separate between “good” and “bad” fiscal policies and punish the latter with higher costs of borrowing. Therefore, there is only limited spill over effect of “bad” fiscal policy within a monetary union if financial markets work efficiently. We argue, consequently, that fiscal rules in a monetary union are still important as they allow to overcome incentive incompatibility of national fiscal rules and as they may guide financial markets in assessing sustainability of national fiscal policies. Finally, we argue for adoption of an institutional rule, Fiscal Sustainability Council for enlarged European Union. The Council would periodically assess fiscal policies and set guidelines for annual deficits. We argue that in order to make the FSC relevant, governments would be obliged to deposit with the Council a substantial amount of bonds that would be regularly rolled over by the Council. By doing so, the Council would connect fiscal policy sustainability principle with financial markets and would guide financial markets evaluation of national fiscal policies.

Suggested Citation

  • Petr Hedbávný & Ondřej Schneider & Jan Zápal, 2004. "Does the Enlarged European Union Need a Better Fiscal Pact?," Working Papers IES 55, Charles University Prague, Faculty of Social Sciences, Institute of Economic Studies, revised 2004.
  • Handle: RePEc:fau:wpaper:wp055

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    References listed on IDEAS

    1. Ondrej Schneider, 1999. "Implicit Public Debt of the Czech Social-Security System," CASE Network Studies and Analyses 0167, CASE-Center for Social and Economic Research.
    2. Alan J. Auerbach, 2003. "Fiscal Policy, Past and Present," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 34(1), pages 75-138.
    3. Charles Wyplosz, 2002. "Fiscal Policy: Institutions vs. Rules," IHEID Working Papers 03-2002, Economics Section, The Graduate Institute of International Studies.
    4. Barry Eichengreen & Lucas D. Papademos, 2003. "The Future of the European Growth and Stability Pact," CESifo Forum, Ifo Institute - Leibniz Institute for Economic Research at the University of Munich, vol. 4(2), pages 68-77, October.
    5. Thomas Laubach, 2009. "New Evidence on the Interest Rate Effects of Budget Deficits and Debt," Journal of the European Economic Association, MIT Press, vol. 7(4), pages 858-885, June.
    6. Theodore M. Barnhill & George Kopits, 2003. "Assessing Fiscal Sustainability Under Uncertainity," IMF Working Papers 03/79, International Monetary Fund.
    7. James M. Poterba & Jürgen von Hagen, 1999. "Fiscal Institutions and Fiscal Performance," NBER Books, National Bureau of Economic Research, Inc, number pote99-1, January.
    8. George Kopits, 2001. "Fiscal Rules; Useful Policy Framework or Unnecessary Ornament?," IMF Working Papers 01/145, International Monetary Fund.
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    Cited by:

    1. Vyprachticka, Terezie, 2011. "Could the Stability and Growth Pact be Substituted by the Financial Markets?," European Integration online Papers (EIoP), European Community Studies Association Austria (ECSA-A), vol. 15, September.
    2. Takayama, Noriyuki, 2013. "Intergenerational Equity and the Gender Gap in Pension Issues," CIS Discussion paper series 605, Center for Intergenerational Studies, Institute of Economic Research, Hitotsubashi University.

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    fiscal policy; European Union; sustainability;


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