Big Brother is also being watched: Measuring fiscal credibility

Abstract

Fiscal policy is less credible than monetary policy, due to political economy issues. This paper provides an explicit measure of fiscal credibility, based on the anchoring of private expectations onto official targets. It documents how credibility varied among a sample of 27 European countries over 1995–2019. Credibility behaves like a stock of trust that is affected by fiscal policy, past performance, and institutions (fiscal rules and councils). This paper highlights how regular government communication – budgets and fiscal plans – is crucial to anchor expectations and buttress credibility. Last, it shows that credibility is associated with better sovereign financing conditions. Governments should thus strive to maintain their credibility.