The Economic Importance of Fiscal Rules

Abstract

The European Council of 22–23 March 2005 agreed on some long-awaited reforms of the Stability and Growth Pact (SGP). The Pact includes two Council regulations: Regulation 1466/97 on the strengthening of budgetary surveillance and coordination of economic policies (the so-called ‘preventive arm’), and Regulation 1467/97 on the excessive deficit procedure (the co-called ‘corrective arm’). In applying to both arms of the Pact the reforms are in principle quite comprehensive and they appear also to be quite detailed and complex. The objective of this chapter is to provide an assessment of these reforms, using an empirically based model to do so. The background to the reforms and analysis of the economic rationale for a fiscal pact of the type represented by the SGP can be found in, for example, Calmfors (2005) and Beetsma and Debrun (2006). The working paper versions of this chapter (Artis and Onorante, 2006a, 2006b) also contain a review of these important issues. However the main business of the current chapter is to lay out and estimate an empirical model which can be used to simulate the effects of alternative fiscal rules, including both the reformed and the pre-reform versions of the SGP. We begin by identifying the agreed amendments to the two ‘arms’ of the old Pact that constitute the reforms agreed upon.