When a government wants to cut a deficit, it must decide both how and when to do it. Research has treated the two questions as if they are independent, which risks attributing good policy to good timing, or vice versa. This column argues that when the effects are considered simultaneously, the composition of fiscal adjustments is much more important than the state of the cycle. Fiscal adjustments based upon spending cuts have losses that are on average close to zero, while those based upon tax increases are associated with large and prolonged recessions, regardless of whether or not the adjustment starts in a recession.
Alberto Alesina, Gualtiero Azzalini, Carlo Favero, Francesco Giavazzi, Armando Miano, 16 December 2016
Biagio Bossone, Stefano Labini, 01 July 2016
Despite facing many of the same challenges, Germany’s current macroeconomic policy is substantially different to those of other countries, in part due to the economy legacy of Walter Eucken. This column considers the economic policy of Hjalmar Schacht, whose ‘MEFO-bills’ monetary solution ended the years of economic struggle caused by the Treaty of Versailles’ reparations commitments. By tying the bills to output, Schacht was able to stimulate output, and eliminate unemployment. This historical implication has clear modern-day implications, with parallels to ‘helicopter money’ policy and Italy’s recent ‘fiscal money’ proposal.
Lawrence Summers, Antonio Fatás, 25 October 2015
The global financial crisis has permanently lowered the path of GDP in all advanced economies. At the same time, and in response to rising government debt levels, many of these countries have been engaging in fiscal consolidations that have had a negative impact on growth rates. We empirically explore the connections between these two facts by extending to longer horizons the methodology of Blanchard and Leigh (2013) regarding fiscal policy multipliers. Using data seven years after the beginning of the crisis as well as estimates on potential output our analysis suggests that attempts to reduce debt via fiscal consolidations have very likely resulted in a higher debt to GDP ratio through their negative impact on output. Our results provide support for the possibility of self-defeating fiscal consolidations in depressed economies as developed by DeLong and Summers (2012).
Paolo Mauro, Jan Zilinsky, 18 September 2015
The public narrative on austerity is shaped by simple scatter plots purporting to portray the large negative impact of fiscal ‘austerity’ on economic growth. This column argues that, while recognising concerns about causality, economists should systematically explore correlations and multiple regressions, and test their robustness. The results reveal a mixed picture, lending partial support to the notion that fiscal choices and output growth are empirically associated.
Carlos Cantú, KeyYong Park, Aaron Tornell, 12 April 2015
The wisdom of structural reform during a crisis is a subject of heated debate. This column compares Greece’s experience to that of Mexico during the debt crisis of the 1980s. Mexico did not receive a haircut until seven years into the crisis – after structural reform was already underway. In Mexico that reform was the outcome of an internal conversation – not a diktat from the outside – and it happened during the height of the crisis.
Anusha Chari, Peter Blair Henry, 06 March 2015
In the wake of the Great Recession, a contentious debate has erupted over whether austerity is helpful or harmful for economic growth. This column compares the experiences of the East Asian countries – whose leaders responded to the East Asian financial crisis with expansionary fiscal policy – with those of the European periphery countries during the Great Recession. The authors argue that it was a mistake for the European periphery countries to pivot from fiscal expansion to consolidation before their economies had recovered.
Marco Buti, Nicolas Carnot, 24 February 2015
In an uncertain world, fiscal policy must be robust to a range of models. This column introduces a rule of thumb governing fiscal expansion that is consistent for a group of countries, and for each country individually. Applying this rule to the Eurozone recommends overall fiscal neutrality, with moderate consolidation in France and Spain, lower consolidation in Italy, and moderate stimulus in Germany. This policy is optimal for Germany even without taking into account positive spillovers to other members.
Sebastian Gechert, Andrew Hughes Hallett, Ansgar Rannenberg, 26 February 2015
The literature on fiscal multipliers has expanded greatly since the outbreak of the Global Crisis. This column reports on a meta-regression analysis of ﬁscal multipliers collected from a broad set of empirical reduced form models. Multiplier estimates are signiﬁcantly higher during economic downturns. Spending multipliers exceed tax multipliers, especially during recessions. The authors estimate that the Eurozone’s fiscal consolidation – most significantly transfer cuts – reduced GDP by 4.3% relative to the no-consolidation baseline in 2011, increasing to 7.7% in 2013.
Sebastian Gechert, Andrew Hughes Hallett, Ansgar Rannenberg, 25 February 2015
The literature on fiscal multipliers has expanded greatly since the outbreak of the Global Crisis. CEPR Policy Insight 79 reports on a meta-regression analysis of ﬁscal multipliers collected from a broad set of empirical reduced form models. Multiplier estimates are signiﬁcantly higher during economic downturns. Spending multipliers exceed tax multipliers, especially during recessions. The authors estimate that the Eurozone’s fiscal consolidation – most significantly transfer cuts – reduced GDP by 4.3% relative to the no-consolidation baseline in 2011, increasing to 7.7% in 2013.
Lars Feld, Christoph Schmidt, Isabel Schnabel, Benjamin Weigert, Volker Wieland, 20 February 2015
Claims that ‘austerity has failed’ are popular, especially in the Anglo-Saxon world. This column argues that this narrative is factually wrong and ignores the reasons underlying the Greek crisis. The worst move for Greece would be to return to its old ways. Greece needs to realise that things could actually become much worse than they are now, particularly if membership in the Eurozone cannot be assured. Instead of looking back, Greece needs to continue building a functioning state and a functioning market economy.
Simon Wren-Lewis, 30 January 2015
The anaemic recovery from the Global Crisis and the downward trend in real interest rates since 1980 have revived interest in the idea of secular stagnation. This column argues that if the US, UK, and Eurozone had not pursued contractionary fiscal policies from 2010 onwards, the recovery would not have been so slow and nominal interest rates would no longer be at the zero lower bound. Expanding the stock of government debt would have ameliorated, not worsened, the shortage of safe assets.
Paolo Manasse, 27 January 2015
This column discusses and evaluates the new guidelines issued by the European Commission regarding the Stability and Growth Pact. These do not change the existing rules, but work to improve transparency, encourage fiscal discipline, and underline that fiscal adjustments should vary based on the circumstances a country finds itself to be in. But by operating within to the existing rules, the new guidelines conform to austerity bias and complexity of implementation.
Roberto Perotti, 13 September 2014
There is a growing consensus that austerity is contributing to the Eurozone’s macroeconomic malaise, but also that spending cuts are needed in the long run to achieve fiscal sustainability. Some commentators have advocated a temporary tax cut financed by unsterilised ECB purchases of long-term public debt, accompanied by a commitment to future spending cuts. This column argues that such commitments are simply not credible – especially given the moral hazard problem created by central bank monetisation of debts.
Paul De Grauwe, 07 July 2014
There has been a stark contrast between the experiences of Spain and the UK since the Global Crisis. This column argues that although the ECB’s Outright Monetary Transactions policy has been instrumental in reducing Spanish government bond yields, it has not made the Spanish fiscal position sustainable. Although the UK has implemented less austerity than Spain since the start of the crisis, a large currency depreciation has helped to reduce its debt-to-GDP ratio
Carlos Vegh, Guillermo Vuletin, 12 June 2014
The question of whether fiscal policy should be pro- or countercyclical has become increasingly relevant during the recession. This column provides causal evidence from South American countries showing the success of countercyclical policy in improving social indicators of economic success, combined with correlative evidence from Europe. This represents a strike against the case for austerity-led growth.
Markus Eberhardt, 11 May 2014
The debt-growth link is essential to today's marcoeconomic policy choices. This Vox Talk discusses new evidence based on data on total public debt for 105 economies between 1972 and 2009 and two centuries of data for the UK, US, Sweden and Japan. There is no convincing proof that austerity works and that it is dangerous for policy makers to pretend otherwise.
Emanuele Baldacci, Sanjeev Gupta, Carlos Mulas-Granados, 31 March 2014
The recent debate on the link between austerity and growth has focused on the short run. This column discusses recent research into the link between fiscal consolidation and medium-term growth under different financial conditions. If credit is not available to consumers and investors, private demand is less able to compensate for cutbacks in public demand, so large spending cuts can have a negative effect on growth. Difficult financial conditions probably explain why fiscal adjustments that worked in the 1990s have not produced similar beneficial effects on growth in recent years.
Francesco Pappadà, Yanos Zylberberg, 03 February 2014
Greece’s austerity package included an unprecedented increase in the VAT rate, but the resulting increase in revenue was much lower than expected. This column links this disappointing result to the ‘transparency response’ of firms to higher tax rates. In countries like Greece with poor tax monitoring, firms face a tradeoff when deciding whether to declare their activity. Transparency is a necessary condition for accessing external finance, but it also means having to pay tax. Improving credit conditions for small and medium-size Greek firms might shift this tradeoff in favour of transparency.
Markus Eberhardt, Andrea Presbitero, 17 November 2013
The idea that there is a common tipping point in the relationship between public debt and economic growth is still widespread. However, this is likely due to a misinterpretation of the existing evidence. Once we allow for the relationship between debt and growth to be country-specific, there is limited evidence supporting the presence of a within-countries debt threshold.
Silvana Tenreyro, Gregory Thwaites, 12 November 2013
Governments wary of fiscal expansion have turned to monetary policy to stimulate slowly recovering economies. This column presents evidence that lowering interest rates is ineffective during recessions – just when fiscal policy would be most effective. If this result is robust, we are seeing recent signs of recovery in spite of austerity, not because of it.