A new FIRSTRUN working paper “Finding the Bottom Line: A Quantitative Model of the EU’s Fiscal Rules and their Compliance” has been published today.
The EU’s new fiscal framework is complex. It includes multiple rules and target measures that steer fiscal policy both in the short and long term. While the complexity may be necessary, it is not without problems, as ambiguous fiscal rules are hard to communicate, implement, and enforce. To provide more clarity, this paper uses a dynamic simulation model to quantify the constraint that the rules impose on fiscal policy during consolidations. In particular, the simulator quantifies multiyear adjustment programs that minimize the need of fiscal adjustments while being compliant with the key elements of the framework. By using the European Sovereign Debt Crisis data, the paper shows that the model is consistent with the actual consolidation programs. The paper also finds that revisions of the economic forecasts have a large effect on the simulated adjustments and may increase policy volatility. The positive early 2010 forecasts imply faster minimum adjustments than the weaker ex-post economic data. This feature corresponds well with the recent slowdown of the member states’ fiscal adjustments, and suggests that the policy change is in compliance with the rules.
Author: Tero Kuusi (ETLA)