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Pushing the limit? Fiscal policy in the European Monetary Union

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  • Daniel, Betty C.
  • Shiamptanis, Christos

Abstract

Governments are confronted with the growing realization that they face fiscal limits on the size of debt and deficits relative to GDP. These fiscal limits invalidate Bohn's criterion for fiscal sustainability, which allows explosive debt relative to GDP, eventually violating any fiscal limit. We derive restrictions on a fiscal rule, necessary for the government to eliminate explosive behavior. These restrictions require that the response of the primary surplus to debt be relatively strong, and that the primary surplus be cointegrated with both debt and output. We test these empirical implications for a panel of eleven EMU countries, and find that they are satisfied, implying that fiscal policy does not create explosive behavior.

Suggested Citation

  • Daniel, Betty C. & Shiamptanis, Christos, 2013. "Pushing the limit? Fiscal policy in the European Monetary Union," Journal of Economic Dynamics and Control, Elsevier, vol. 37(11), pages 2307-2321.
    • Handle: RePEc:eee:dyncon:v:37:y:2013:i:11:p:2307-2321
    DOI: 10.1016/j.jedc.2013.06.003
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    More about this item

    Keywords

    European Monetary Union; Fiscal policy; Fiscal limits; Panel cointegration; Error correction;
    All these keywords.

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C33 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Models with Panel Data; Spatio-temporal Models
    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions

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