Author(s): Christos Chrysanthakopoulos, Athanasios Tagkalakis
Date published: Nov 2022
SUERF Policy Brief, No 468*
By Christos Chrysanthakopoulos (University of Patras) and Athanasios Tagkalakis (Bank of Greece, University of Patras, Hellenic Parliamentary Budget Office)
*Authors’ note: The views expressed in this column are the responsibility of the authors and do not necessarily reflect the position of the Bank of Greece and the Hellenic Parliamentary Budget Office.
JEL codes: C23, E02, E32, E61, E62, H30, H61.
Keywords: Fiscal policy, business cycle, procyclicality, fiscal councils, fiscal adjustments.
Download: SUERF Policy Brief, No 468 (0.5 MB)
The European Union is facing many challenges in the post-pandemic era due to the energy crisis caused by the Russian invasion in Ukraine. In this unfavorable environment, the macroeconomic outlook remains uncertain, resulting in a significant deterioration of fiscal outcomes. In this context, the discussion about the reform of the EU fiscal framework is under way in order for countries to avoid an excessive fiscal tightening by the application of the pre-pandemic fiscal rules. This column shows that independent fiscal councils reduce fiscal policy procyclicality and increase the probability of both starting and successfully concluding a fiscal adjustment. Building on these findings we propose that the new EU fiscal framework should assign greater role to national independent fiscal councils for monitoring compliance with national and EU fiscal rules.
The COVID-19 pandemic and the energy crisis have resulted in a significant deterioration of fiscal outcomes in many countries around the world. This creates the need to consolidate public finances in the near future. However, the timing of fiscal consolidation is critical because a fiscal adjustment in bad economic times, i.e., a procyclical response, could delay economic recovery and the decline of the debt to GDP ratio, as in the euro area at the time of the sovereign debt crisis (Darvas et al., 2018).
Figure 1: Fiscal councils mitigate fiscal policy procyclicality.
Notes: The figure shows the response of the cyclically adjusted primary balance after a 1% increase in the output gap with (coloured bars) and without (blue bars) a fiscal council. The following fiscal council characteristics are considered: enhanced remit, independence & accountability, and adequate resources. A positive value implies a counter-cyclical response and a negative value a pro-cyclical response
Building on earlier literature (e.g., Wiese et al., 2018; Gootjes and de Haan, 2022) in a closely related paper (Chrysanthakopoulos and Tagkalakis, 2022b), we find that fiscal councils increase the likelihood of starting a fiscal adjustment. This particularly true for a council with enhanced remit and with strong independence & accountability. In more detail, the probability of initiating a fiscal adjustment increases by about 9% in the case of a fiscal council (FC) with enhanced remit and by about 8% in the case of fiscal council with strong independence and accountability (ceteris paribus).
Figure 2: The probability of initiating a fiscal consolidation.
Notes: The figure shows the marginal effect of the probability of starting a fiscal adjustment in the presence of a fiscal council. The blue bar shows a fiscal council with enhanced remit and red bar shows a fiscal council with strong independence & accountability.
Moreover, we find that a fiscal council with enhanced remit, strong independence & accountability and enhanced tasks & instruments increase the probability of a successful fiscal adjustment. As reported in Figure 3, the probability of success increases by about 14% in the case of a fiscal council with enhanced remit, by about 8% in the case of fiscal council with enhanced tasks & instruments, and by about 7% in the case of a fiscal council with strong independence and accountability (ceteris paribus). The results control for likely endogeneity between successful fiscal adjustments and the specific design features of fiscal councils by means of the augmented inverse probability weighted estimator as in Jorda and Taylor (2016).
Figure 3: The probability of a successful fiscal adjustment.
Notes: The figure shows the marginal effect of the probability of a successful fiscal adjustment in the presence of a fiscal council. The blue bar shows a fiscal council with enhanced remit, the red bar shows a fiscal council with enhanced tasks & instruments and orange bar shows a fiscal council with strong independence & accountability.
Employing a panel for 35 advanced economies over the period 1990-2020, we find that independent fiscal councils can curb the procyclicality of fiscal policy and can even lead to countercyclical response. In more detail, a fiscal council with strong remit, independence & accountability and adequate resources can mitigate fiscal procyclicality. In addition, we provide evidence that a fiscal council with strong remit and independence & accountability increases the probability of initiating a fiscal adjustment. That is, it will identify a fiscal deterioration in time and contribute to its faster correction. Moreover, an independent fiscal council with enhanced remit, tasks & instruments, as well as strong independence & accountability increases the likelihood of a successful fiscal adjustment. This implies that the fiscal council will ensure that the fiscal effort is based on reliable and realistic forecasts, supervise and closely monitor the fiscal consolidation effort, and correct any deviations, thus contributing to the success of the fiscal adjustment.
These findings are particularly relevant in view of the on-going discussion on the revision of the EU fiscal framework, and the importance that the new framework should assign to national independent fiscal councils for monitoring compliance with national and EU fiscal rules (see for example, Beetsma and Debrun, 2018; Beetsma et al, 2019; Debrun and Reuter, 2022; Feld and Reuter, 2022, Beetsma et al. 2022).
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About the authors
Christos Chrysanthakopoulos is a PhD candidate in Economics at the University of Patras (Greece). Before the PhD, he received a MSc and a BSc degree in Economics from the University of Patras. His research focuses on macroeconomics, fiscal policy, and political economy issues.
Athanasios Tagkalakis is Assistant Professor at the Department of Economics of the University of Patras, Advisor-Economist at the Economic Analysis and Research Department of the Bank of Greece, and Member of the Scientific Committee of the Hellenic Parliamentary Budget Office. He has formerly worked at the Hellenic Ministry of Finance (Council of Economic Advisors) and the Bank of England (SEAD). He holds a PhD in Economics from the European University Institute in Florence (Italy) and an M.Sc. in Economics from the University of Warwick.