Fiscal Contraction Research Articles

The impact of inflation on local government fiscal health

PurposeInflation and federal monetary efforts to control it with interest rate hikes have very real and overwhelmingly negative consequences on US local governments following the onset of COVID-19. This study explores the post-pandemic inflationary environment of US local governments; examines the impacts of inflation and high interest rates on local government revenue, operating costs, capital costs, and debt service; reviews local government inflation management strategies, including the use of intergovernmental revenue; and assesses ongoing threats to local government financial health and financial resilience.Design/methodology/approachThis study uses trend and literature analysis to comment on current issues local governments face.FindingsThe study finds that the growth of property values and resulting stability of property tax revenue has been important to local government revenues; that local governments bear very real burdens as operating and capital costs increase; and that the combination of high inflation and interest rates affects local government debt issuance by negatively affecting credit quality and interest costs, leading to municipal market contraction. Local governments have benefitted tremendously from intergovernmental revenue, but would be ill-advised to rely on it.Practical implicationsVulnerabilities owing from revenue mismatch with the economy; inadequate affordable housing, inequality, and social issues; a changing workforce and tight labor market; climate change; and federal fiscal contraction—all of which are exacerbated by high inflation and interest rates—require local governments to act strategically, boldly and collaboratively to achieve fiscal health and financial resilience, and to realize positive returns of investments in people and capital.Originality/valueThis work is unique in addressing the post-pandemic impact of inflation and interest rates on local governments.

Green trading and ecological sustainability under macroeconomic policy framework

When confronted with ecological challenges, trading ecologically friendly products involvingrenewable technologies, green management practices, and effluent treatment methods could alleviate ecological degradation on a global scale while considering the macroeconomic policy framework. Therefore, this study determines the effectiveness of fiscal and monetary policy instruments in moderating the relationship between green trade openness (i.e., trade in environmentally related products) and ecological sustainability. Applying panel quantile regression on data from 20 OECD members from 2003 to 2016, we found that green trade openness supports ecological sustainability through a gains-from-trade approach. Concerning moderation effects, expenditure-driven fiscal expansion reinforces the favorable influence of green trade openness on ecological sustainability across ecologically less/moderately efficient economies, while it does the reverse for ecologically more efficient members. Taxation-driven fiscal contraction promotes ecological sustainability amelioration impact of green trade openness for economies with below-average ecological quality and remains neutral for those with average/above-average ecological quality. Besides, interest rate-driven monetary contraction proliferates the ecological sustainability enhancement effect of green openness. We suggest that the fiscal and monetary policies demand unambiguous coordination with the OECD’s trade policy structure for optimal environmental outcomes of trading in environmental products. These insights would help OECD’s green trade policies gain momentum to facilitate the attainment of the Climate Action agenda of the United Nations’ Sustainable Development Goals.

The unfree, the freer, and the government: Economic freedom and the fiscal multiplier

We investigate the causal effect of government spending on real output conditional on economic freedom. Using data for 161 countries from 2000 to 2019 results show, first, that the size of the fiscal multiplier is inversely related to the level of freedom and, second, countries with the mean level of economic freedom of the sample (6.9) had a multiplier of around 1. Developed countries are characterized by high levels of freedom and a fiscal multiplier lower than 1 while developing countries exhibit a fiscal multiplier higher than 1 and low levels of freedom. The differences between countries with low and high economic freedom in their fiscal multipliers are asymmetric, in fiscal contractions are higher. We conclude that countries should strengthen institutions to promote economic freedom and development.

How do fiscal policy, technological innovation, and economic openness expedite environmental sustainability?

The existing knowledge has largely overlooked the debate of whether governmental intervention limits or promotes environmental sustainability tendencies of production and consumption processes in response to economic openness. To fill this void, we aim to explore the effectiveness of fiscal policy instruments (tax revenue and government expenditure) in moderating the influence of economic openness on electricity productivity and greenhouse gas productivity by considering the Group of Seven (G7) countries as an investigative laboratory over the period 1990–2019 in the presence of technological innovation and other covariates. Developing on a Stochastic Impacts by Regression on Population, Affluence, and Technology framework, we employed a novel panel Method of Moments Quantile Regression. We found that economic openness contributed significantly to a reduction in environmental quality. Tax revenues-based fiscal contraction proved an important yardstick in mitigating climate change, especially across above-average electricity/ greenhouse gas productivity G7 countries. Nevertheless, government expenditures-based fiscal expansion significantly inhibited environmental sustainability. Concerning the indirect effects of fiscal policy, expanded taxation successfully mitigates the adverse environmental effects of economic openness; nevertheless, government expenditure promotes environmental adversities. Moreover, technological innovation promoted environmental sustainability, particularly across countries with medium and lower levels of electricity/greenhouse gas productivity. Among control variables, while the human development index remained supportive of environmental sustainability, the education index impeded electricity/ greenhouse gas productivity. The present study estimates alternative models by accommodating carbon productivity as an indicator of environmental sustainability, asserting the robustness of our baseline outcomes. According to our findings, we suggest that the fiscal financing of G7 countries should be directed to enhance the demand for domestic and imported environmentally friendly products that will cause a decline in consumption-based anthropogenic emissions of economic openness. Additionally, to meet the targets of Sustainable Development Goals (SDGs), including the mitigation of climate change and access to sustainable energy, fiscal financing should be redirected from entrepreneurs aiding in environmental degradation to eco-friendly ventures.

A VAR model for Fiscal Multipliers and the Future of Fiscal Policy in European Monetary Union

Abstract Fiscal multipliers have been a core issue for the effectiveness of fiscal policy. During the financial economic crisis of 2007–8 there has been a revival of interest in re-estimating the size of the multipliers. Empirical literature showed that fiscal multipliers are dependent either on structural characteristics of the economy (exchange rate regime, openness, etc.), or on business cycles or on fiscal characteristics (level of debt, the choice between expenditures and taxes, etc.) of the economies. The aim of this paper is to contribute to this discussion by developing a VAR model to compute the effects of fiscal policy to output for the 19 member states of EMU for the period 2002-2019. Controlling for size of the countries, level of Debt to GDP ratio and openness. Based on these findings we will discuss the difficulties of fiscal consolidation in EMU economies. We argue that EMU is facing a deadlock, the necessity of fiscal consolidation on the one hand and the unavoidable risk of uneven results of fiscal contraction in the member states due to different size of multipliers on the other hand. The only alternative for EMU is to take a step forward towards a fiscal union. In this case fiscal policy should be balance different political priorities and preferences and at the same time be timely and effective. JEL classification numbers: F35, O53. Keywords: Fiscal policy, European Monetary Union, debt, Fiscal cooperation, Fiscal multipliers.

A VAR model for Fiscal Multipliers and the Future of Fiscal Policy in European Monetary Union

Abstract Fiscal multipliers have been a core issue for the effectiveness of fiscal policy. During the financial economic crisis of 2007–8 there has been a revival of interest in re-estimating the size of the multipliers. Empirical literature showed that fiscal multipliers are dependent either on structural characteristics of the economy (exchange rate regime, openness, etc.), or on business cycles or on fiscal characteristics (level of debt, the choice between expenditures and taxes, etc.) of the economies. The aim of this paper is to contribute to this discussion by developing a VAR model to compute the effects of fiscal policy to output for the 19 member states of EMU for the period 2002-2019. Controlling for size of the countries, level of Debt to GDP ratio and openness. Based on these findings we will discuss the difficulties of fiscal consolidation in EMU economies. We argue that EMU is facing a deadlock, the necessity of fiscal consolidation on the one hand and the unavoidable risk of uneven results of fiscal contraction in the member states due to different size of multipliers on the other hand. The only alternative for EMU is to take a step forward towards a fiscal union. In this case fiscal policy should be balance different political priorities and preferences and at the same time be timely and effective. JEL classification numbers: F35, O53. Keywords: Fiscal policy, European Monetary Union, debt, Fiscal cooperation, Fiscal multipliers.

The Foreign Trade of Greece and the EU during the Economic Crisis (2008) and the Health Crisis (2020)

This paper examines the foreign trade of Greece compared to the foreign trade of EU28 during the Economic Crisis (2008) and the Health Crisis (2020). Based on the findings of relevant scientific literature, the quantitative data of external trade (exports, imports, trade balance) are recorded and analyzed methodologically. At the same time, the terms of trade and the degree of extroversion of Greek commerce compared to the corresponding figures of the EU28 during the period of the economic crisis (2008-2018) and the health crisis (2020-2021) are extracted. According to previous scientific literature in times of crisis, the volume of foreign trade at international, regional and national level is also bearing, among other financial figures.The economic crisis (2008) and the implemented harsh restrictive measures due to fiscal contraction resulted, among other consequences, in the reduction of income and internal demand, that the businesses confronted, strengthening their commercial extroversion, while for the same reasons imports decreased, resulting in an improvement in the trade balance, the terms of trade and the degree of commercial extroversion. Accordingly, from the current data, it seems that the exports of both Greece and the EU28 decreased to about the same extent during the period of the Health Crisis (2019-2020). As far as the external trade figures are concerned, it appears that the Greek degree of sensitivity to the effects of crises is greater than that of the EU28. Indeed, it appears that exports are less vulnerable to the effects of crises than imports. This behavior of Greek foreign trade can be explained by the sectoral composition of exports, in which the greatest relevance is attributed to the products with great elasticity of demand in terms of income, by the smaller size of enterprises and hence the limited access to commercial loans and external financing, but also by the lack of competitiveness of exported products in terms of added value, quality and price, compared to those of the EU28 and especially of the most developed countries. Suggestions for further research are to expand the period of the data taking into consideration the period of 2021 and solving dilemma how the new geopolitical crisis of Russia and Ukraine will affect the international trade relations, bonds and transactions.

Mali Konsolidasyon Programlarının Özel Tüketim Harcamaları Üzerindeki Etkisi: PIIGS Ülkelerine Yönelik Panel Veri Analizi

Bütçe dengesinin çeşitli nedenlerle bozulması sonucunda dengenin tekrar kurulması amacıyla mali konsolidasyon programları uygulanmaktadır. Mali konsolidasyon, kamu açıklarını ve borç stokunu azaltmaya yönelik uygulanan daraltıcı maliye politikaları olarak tanımlanmaktadır. Çalışmada, mali konsolidasyon programlarının özel tüketim harcamaları üzerindeki etkisi 1995-2020 yılı verilerine dayalı olarak PIIGS (Portekiz, İtalya, İrlanda, Yunanistan, İspanya) ülkelerini içeren panel veri analizi ile ortaya koyulmuştur. Elde edilen bulgular ışığında mali konsolidasyon programlarının ülkeler arasında farklı etkiler oluşturduğu görülmüştür. İrlanda ve İtalya’da genişletici mali daralma hipotezini destekleyici bulgular elde edilmiştir. Yunanistan’da ise Keynesyen etkileri destekleyen sonuçlara ulaşılmıştır. Örneklem yıllarından olan 2019-2020 yıllarında yaşanmış olan ve çalışmaya dahil edilen Covid-19 salgını nedeniyle uygulanan hükümet programlarının ise Portekiz, İtalya ve İrlanda’da özel tüketim harcamalarını olumlu etkilediği görülmüştür. Bu durum mali konsolidasyon dönemlerinde genişletici mali daralma hipotezinin; genişleme dönemlerinde ise Geleneksel Keynesyen modelin geçerli olabileceğini göstermektedir.

Budget Consolidation and Social Sector Spending: Does Fiscal Contraction Endanger Growth of Human Capital in India?

This study analysed the short- and long-term impacts of fiscal consolidation on social sector spending in Indian economy and thereby on human capital. Using autoregressive distributed lag framework, the study found that fiscal adjustments have significant potential to undermine the short- and long-run spending in human capital. A fiscal adjustment aimed at strengthening fiscal position of the Indian economy can have adverse impacts on the growth rate of income. Lower-income growth will imply increased constraint on part of the government to spend in public utilities like education and health. Similarly, a fiscal adjustment based on slashing government spending can adversely impact both short- and long-term welfare spending as these spendings are mainly financed by deficits. The policymakers while framing the design of a consolidation programme need to take extra precaution as far as the composition of these adjustments are concerned. Moreover, there is need of legislate aimed at changing the nature of welfare spending from discretionary to compulsory.

The (non-)Keynesian effects of fiscal austerity: New evidence from a large sample

We empirically assess whether the negative response of private consumption and private investment to fiscal consolidation usually expected is reversed. We focus on a sample of 174 countries between 1970 and 2018 to determine episodes of fiscal consolidations using three alternative measures of the cyclically adjusted primary balance: (1) an International Monetary Fund (IMF)-World Economic Outlook (WEO) based measure, (2) a Hodrick-Prescott–based measure, and (3) a measure based on Hamilton (2018). We find that, first, increases in government consumption have a Keynesian effect on real per capita private consumption; second, tax increases have a positive effect on private consumption when a fiscal consolidation occurs; and, third, fiscal contraction has a crowding-in effect on private investment. Moreover, expansionary fiscal consolidations occur in highly indebted advanced economies, in particular, after an increase in taxes. We conclude that the negative effects of taxation on private consumption are larger when developing economies are experiencing a financial crisis and are not consolidating.

Relationship between fiscal deficits and unemployment in South Africa

Orientation: Heterodox economic scholarship has challenged the neoclassical doctrine that fiscal deficit increases unemployment in the long-term.Research purpose: This article examined the relationship between fiscal deficits and unemployment.Motivation for the study: The renewed debate about the role of fiscal consolidation in controlling unemployment in South Africa motivated the study. Neoclassicists in South Africa maintain that fiscal consolidation is the solution to unemployment, while heterodox thinkers argue for active fiscal policy.Research approach/design and method: The study utilised the Toda-Yamamoto Granger non-causality test and the Autoregressive Distributed Lag Modelling framework to test the relationship between unemployment and fiscal deficit. The quarterly data for the period 1994–2019 were obtained from the South African Reserve Bank.Main findings: This study found that fiscal deficits reduce unemployment in the short- run but increase it in the long run, thus confirming the neoclassical claim.This study found no statistical evidence for the heterodox view that fiscal deficits reduce interest rates and the neoclassical crowding-out hypothesis. Rather, the interest-neutrality of fiscal deficits was found. The adoption of a fiscal belief system that builds on the expansionary fiscal contraction hypothesis has been associated with high unemployment.Practical/managerial implications: Fiscal authorities have to use fiscal deficits creatively in managing unemployment to create a balanced economy. The fiscal balance, up to a threshold, between 0.8% (surplus) and 1.9% (deficit) of gross domestic product (GDP) in the short term and between 1.7% (deficit) and 1.9% (deficit) in the long term reduces unemployment as per the estimates of the study.Contribution/value-add: The finding that fiscal deficits increase unemployment does not justify a weak fiscal policy stance. The finding that fiscal deficits reduce unemployment up to a point before they begin to increase it in the long-term complements existing literature, which shows that South Africa’s government expenditure to GDP ratio has exceeded its optimal level.

A relational enquiry into the provision of small schools

Small schools are a significant feature of the education ecosystem. In Australia they make up 22 per cent of all schools and serve some of the most vulnerable and disadvantaged communities. While their social and emotional worth to communities (students, educators, families) is rarely questioned, at times of fiscal contraction (e.g., global pandemic) with government revenue in decline and expenses rising, the pressure to sustain provision through small schools is brought into question. Drawing on the emerging field of relational studies, this paper introduces a novel approach – relational inquiry into the provision of education (RIPE) – and applies that to the case study of small schools in the Australian state of New South Wales.

A Dynamic Analysis of the Impact of Fiscal Adjustment on Economic Growth: Evidence From Pakistan

This study claims to be the first in assessing the short-run and long-run impacts of both the size and composition of fiscal adjustment on the growth in Pakistan. Empirical calibration has been made on Mankiw et al.’s model, while the Autoregressive Distributed Lag (ARDL) techniques of Pesaran et al. have been employed to carry out the estimation. To cure the problem of degenerate cases, the ARDL techniques have been augmented with the model of Sam et al. The analysis supports the hypothesis of “expansionary fiscal contraction” in the long run. The analysis reveals that the spending-based adjustment enhances the economic growth, whereas the tax-based adjustment would reduce the growth in the long run in the case of Pakistan. The Granger causality test indicates that the fiscal adjustments have been weakly exogenous, thereby allowing feedback effect from the economic growth toward the fiscal adjustment. Thus, the objective of sustained economic growth can be achieved through the spending-based consolidation measures.

(Non-)Keynesian Effects of Fiscal Austerity: New Evidence from a Large Sample

We empirically assess whether a usually expected negative response of private consumption and private investment to a fiscal consolidation is reversed. We focus on a large sample of 174 countries between 1970 and 2018. We also employ three alternative measures of the Cyclically Adjusted Primary Balance used to determine fiscal episodes: i) the IMF-WEO based; ii) the HP-based; and iii) the Hamilton (2018)-based. We find that: i) increases in government consumption have a Keynesian effect on real per capita private consumption; ii) there is a positive effect of tax increases on private consumption when there is a fiscal consolidation; iii) there is a crowding-in effect for private investment, from fiscal contractions. Moreover, expansionary fiscal consolidations occur particularly in highly indebted advanced economies following an increase in taxes. Finally, the negative effect of taxation on private consumption is larger when an economy is experiencing a financial crisis but it is not consolidating.

Why some places are left behind: urban adjustment to trade and policy shocks

Abstract Economic adjustment to trade and policy shocks is hampered by the fact that some sectors tend to cluster, so are hard to initiate in new places. This can give rise to persistent spatial disparities between cities within a country. The paper sets out a two-sector model in which cities divide into those producing tradable goods or services subject to agglomeration economies, and those only producing non-tradables for the national market. If import competition destroys some established tradable sectors, then affected cities fail to attract new tradable activities and switch to just produce non-tradables. Full employment is maintained (we assume perfect markets and price flexibility) but disparities between the two types of cities are increased. All non-tradable cities experience real income loss, while remaining tradable cities boom. The main beneficiaries are land-owners in remaining tradable cities, but there may be aggregate loss as the country ends up with too many cities producing non-tradables, and too few with internationally competitive activities. Fiscal policy has opposite effects in the two types of cities, with fiscal contraction causing decline in cities producing non-tradables, increasing activity in cities producing tradable goods, widening spatial disparities, and in the process increasing the share of rent in the economy.

Debt Management and the Fiscal Balance

ABSTRACT This paper presents a method for integrating debt management into fiscal policy using principles derived from the work of Kalecki. It proposes dividing the government budget into a functional budget containing taxes and expenditure that may affect expenditures in the non-financial economy, and a financial budget containing taxes on wealth and higher incomes that do not affect expenditures in the real economy but do affect the liquidity of wealth portfolios. This gives the government two more or less independent instruments to manage economic growth and government debt. The respective balances between the functional and financial budgets then affect the fiscal multiplier showing how cases of expansionary fiscal contraction, contractionary fiscal expansion, expansionary financial instability, and deflationary financial instability may arise. The analysis applies to domestically financed debt.

How to Combine Public Spending with Fiscal Rigour? ‘Austerity by Stealth’ in Post-Bailout Portugal (2015-2019)

ABSTRACT In this article, we argue that the Costa I Socialist government (2015–2019) managed to combine responsiveness to voters with responsibility towards domestic and international actors by pursuing some kind of ‘austerity by stealth’, which we define as less visible fiscal contraction that is not displayed by the government in its public discourse. The radical left parties implicitly agreed with this strategy in exchange for the adoption of a long list of visible anti-austerity policies. This allowed the Costa I government to fulfil its electoral pledges and maintain the support of the radical left on the one hand, whilst also reducing the country’s deficit and consequently the costs of interest-debt repayments.

Austerity: The New Normal - A Renewed Washington Consensus 2010-24

Austerity: The New Normal - A Renewed Washington Consensus 2010-24

The Godley-Tobin lecture

This paper surveys some of the main developments in macroeconomics since the anti-Keynesian counter-revolution 40 years ago. It covers both mainstream and heterodox economics. Amongst the topics discussed are: New Keynesian economics, Modern Monetary Theory, expansionary fiscal contraction, unconventional monetary policy, the Phillips curve, hysteresis, and heterodox theories of growth and distribution. The conclusion is that Keynesian economics is alive and well, and that there has been a degree of convergence between heterodox and mainstream economics.

Mimicking a Buffer Fund for the Eurozone

A Eurozone fiscal buffer fund could be set up to finance transfers to countries triggered by the cyclical movements in their unemployment rate. Countries would contribute a fixed share of their GDP to the fund in good times. The receipts from the fund are found to significantly mitigate the fiscal contractions during downturns and thus help bolster the stability of the Eurozone economy by counteracting the pro-cyclicality of fiscal policies. To quantify the extent of macroeconomic stabilisation thus achieved, estimates for the ‘fiscal multipliers’ are superimposed on the assumed change in fiscal policies. It suggests that a Eurozone buffer fund would have significant stabilisation properties.The computations are carried out using two databases – the European Commission's AMECO database and the OECD Economic Outlook database -- by way of a robustness check.