Present-biased Government, Creative Accounting and a Pitfall in Balanced Budget Rules

I propose a general equilibrium model with a quasi-hyperbolic discounting government that optimally decides upon using creative accounting in order to evaluate a balanced budget rule and a debt rule. In that context, I find that a binding balanced budget rule could fail to properly constrain public overindebtedness when government uses creative accounting while a debt rule is effective, since targets are set on total public liabilities. Results suggest that a balanced budget fiscal rule can also deteriorate welfare due to the higher interest rates derived from doing operations under the line, implying future expenditure cuts that are harmful for households, who value public goods and services. A debt rule is also preferred for its capacity to reverse some welfare losses generated by the present-biased government.

Fiscal Rules as Bargaining Chips

Most fiscal rules can be overridden by consensus. We show that this does not make them ineffectual. Since fiscal rules determine the outside option in case of disagreement, the opposition uses them as “bargaining chips” to obtain spending concessions. We show that under some conditions this political bargain mitigates the debt accumulation problem. We analyze various rules and find that when political polarization is high, harsh fiscal rules (e.g., government shutdown) maximize the opposition’s bargaining power and lead to lower debt accumulation. When polarization is low, less strict fiscal limits (e.g, balanced-budget rule) are preferable. Moreover, we find that the optimal fiscal rules could arise in equilibrium by negotiation. Finally, by insuring against power fluctuations, negotiable rules yield higher welfare than hard ones.

Fiscal policy rules in a stock-flow consistent model

<p class="normal"><span lang="EN-US">The present paper analyzes four fiscal policy rules in a Stock-Flow Consistent model. The rules are: (i) government expenditures as a fixed proportion of GDP; (ii) government deficit as a fixed proportion of GDP; (iii) government debt as a fixed proportion of GDP; and (iv) a balanced budget. Then the economic trends implied by each rule are analyzed, and they are all compared. Some of the main findings can be summarized as follows: the more expansionist (or less contractionist) rules present higher growth rates, as expected; there is an inverse relationship between government debt and private debt, with the former being higher under the first rule, and lower in the balanced budget rule, the opposite happening in the case of private debt. Finally, considering enterprises’ profitability, we conclude that the best fiscal rule for firms is the first one, and, for the banking sector, also not surprisingly, it is the balanced budget rule.</span></p>

The ‘German Way’ of Curbing Public Debt

Public debt: relevance for funding of modern states – Keynesian revolution – Consequences of the financial crisis in Germany – Introduction of the debt brake and Fiscal Compact – The constitutional debt brake: structure and exceptions of the balanced budget rule, four deficiencies of the debt brake – The Fiscal Compact: historical background and structure of the balanced budget rule – Sufficient implementation of the balanced budget rule in Germany? – Constitutionality of the Fiscal Compact? – Austerity as the wrong answer for solving the current economic problems

The United Kingdom and the Fiscal Compact: Past and Future

United Kingdom perspective on the Fiscal Compact - December 2011 Brussels summit veto - European Union Act 2011 - Legal obstacles to accession to Fiscal Compact - Legal obstacles to incorporation into EU Treaties - Relevance of legal conditions and political motivations - Legal obstacles to implementation of balanced budget rule - Interpretation of Article 3(2) - Parliamentary Sovereignty - Challenges to United Kingdom's political constitution

The Fiscal Compact: Europe's Not Always Able to Speak German: On the Dutch Implementing Act and the Hazardous Interpretation of the Implementation Duty in Article 3(2) Fiscal Compact

Fiscal Compact: duty to implement balanced budget rule, automatic correction mechanism and independent budget supervisor in national law – The Netherlands: Act on sustainable government finances – Act does not bind the (budget) legislature – Conformity with the implementation duty in Article 3(2) Fiscal Compact? – The first reading of Article 3(2) – The second reading of Article 3(2) – The genesis of Article 3(2) – Recourse to (Dutch and French) monism?