Commitment, Deficit Ceiling, and Fiscal Privilege

Abstract

This study analyzes how commitment to a deficit ceiling can affect private agents´ political efforts, as well as overall welfare, in a hard- and a soft-budget regime, using a two-period model simulating a present and a future generation and a government. In the hard-budget regime, the government imposes the deficit ceiling before the present generation´s interest group decides the quantity of personal fiscal privileges. Since in the soft-budget regime the government cannot commit itself to the deficit ceiling ex ante, the present generation exerts intense political efforts for personal fiscal privileges. We explore the interesting possibility that the soft-budget regime leads to an overall welfare reduction for both generations, and hence, the commitment to a deficit ceiling benefits even rent-seeking private agents.