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Political Devolution without Fiscal Devolution

Author

Listed:
  • Andrew Hughes Hallett

    () (Vanderbilt University and CEPR)

Abstract

Using a conventional model, this paper examines the conditions under which it is possible to stabilise both the output (inflation) cycle and the budget deficit/surplus of a regional economy in a wider currency union. We find that it is never possible. But we can approximate that result (for example, by limiting budgetary instability when the cycle is smoothed) if the product and labour markets are suitably flexible. Conversely, if fiscal policy is restricted, output and inflation volatility will be extended unless all shocks are supply shocks, compared to the case where there is some fiscal autonomy. Attempts at stabilisation in this situation would lead to an unstable political equilibrium. These results are important because they show what can be expected from fiscal restraints like the Stability Pact or tax harmonisation in the Eurozone; and from fiscal autonomy at the subnational level in older unions. Calibrating the results for the EU and UK respectively, we find that denying autonomy to the regions of the UK might be rather costly in terms of performance. But imposing tax harmonisation at the EU level would not.

Suggested Citation

  • Andrew Hughes Hallett, 2005. "Political Devolution without Fiscal Devolution," Vanderbilt University Department of Economics Working Papers 0505, Vanderbilt University Department of Economics.
  • Handle: RePEc:van:wpaper:0505
    as

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    File URL: http://www.accessecon.com/pubs/VUECON/vu05-w05.pdf
    File Function: First version, 2005
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    References listed on IDEAS

    as
    1. Hallett, Andrew Hughes & Jensen, Svend E. Hougaard & Richter, Christian, 2005. "The European economy at the cross roads: Structural reforms, fiscal constraints, and the Lisbon Agenda," Research in International Business and Finance, Elsevier, vol. 19(2), pages 229-250, June.
    2. Michael J. Artis & Marco Buti, 2000. "'Close-to-Balance or in Surplus': A Policy-Maker's Guide to the Implementation of the Stability and Growth Pact," Journal of Common Market Studies, Wiley Blackwell, vol. 38(4), pages 563-591, November.
    3. David Gruen & Tim Robinson & Andrew Stone, 2002. "Output Gaps in Real Time: Are They Reliable Enough to Use for Monetary Policy?," RBA Research Discussion Papers rdp2002-06, Reserve Bank of Australia.
    4. Glenn Rudebusch & Lars E.O. Svensson, 1999. "Policy Rules for Inflation Targeting," NBER Chapters,in: Monetary Policy Rules, pages 203-262 National Bureau of Economic Research, Inc.
    5. Demertzis, Maria & Hughes Hallett, Andrew & Viegi, Nicola, 2004. "An independent central bank faced with elected governments," European Journal of Political Economy, Elsevier, vol. 20(4), pages 907-922, November.
    6. Günter Coenen & Volker Wieland, 2002. "Inflation Dynamics and International Linkages: A Model of the United States, the Euro Area and Japan," Computing in Economics and Finance 2002 240, Society for Computational Economics.
    7. Andrew Hughes Hallett & Svend E. Hougaard Jensen, 2003. "On the Role of Labour Market Reform for the Enlargement of a Monetary Union," CESifo Economic Studies, CESifo, vol. 49(3), pages 355-379.
    8. repec:sae:niesru:v:164:y::i:1:p:90-99 is not listed on IDEAS
    9. Ramey, Garey & Ramey, Valerie A, 1995. "Cross-Country Evidence on the Link between Volatility and Growth," American Economic Review, American Economic Association, vol. 85(5), pages 1138-1151, December.
    10. Bean, Charles, 1998. "The New UK Monetary Arrangements: A View from the Literature," Economic Journal, Royal Economic Society, vol. 108(451), pages 1795-1809, November.
    11. Buti, Marco & Franco, Daniele & Ongena, Hedwig, 1998. "Fiscal Discipline and Flexibility in EMU: The Implementation of the Stability and Growth Pact," Oxford Review of Economic Policy, Oxford University Press, vol. 14(3), pages 81-97, Autumn.
    12. Ray Barrell & Karen Dury, 2000. "Choosing the Regime: Macroeconomic Effects of UK Entry into EMU," Journal of Common Market Studies, Wiley Blackwell, vol. 38(4), pages 625-644, November.
    13. Hughes Hallett, Andrew & Viegi, Nicola, 2003. "Labour Market Reform and the Effectiveness of Monetary Policy in EMU," Journal of Economic Integration, Center for Economic Integration, Sejong University, vol. 18, pages 726-749.
    14. Ray C. Fair, 1998. "Estimated Stabilization Costs of the EMU," National Institute Economic Review, National Institute of Economic and Social Research, vol. 164(1), pages 90-99, April.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Business cycle volatility; budget stability; regional autonomy; market flexibility;

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • R13 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - General Regional Economics - - - General Equilibrium and Welfare Economic Analysis of Regional Economies

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