Fiscal policy rules, budget deficits, and forecasting biases

Baldi, Guido (2016). Fiscal policy rules, budget deficits, and forecasting biases. Journal of economic policy reform, 19(2), pp. 185-194. Taylor & Francis 10.1080/17487870.2015.1057509

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In this paper, we analyze the impact fiscal policy rules have on budget deficits and fore-casting biases in official budget outlooks. Persistent budget deficits and over-optimistic budget forecasts have been observed in many countries in the past, especially in the euro area. To prevent such developments from happening in the future, fiscal rules have been revised or implemented with the aim to strengthen both preventive (ex-ante) and correc-tive (ex-post) elements of fiscal rules frameworks. Do such ex-ante and ex-post rules differ in their effects? In an attempt to answer this question, we build a two-period model and distinguish between ex-ante rules that apply to budget forecasts and ex-post rules that apply to realized budget deficits. Our model indicates that effectively enforced ex-post rules are more effective than ex-ante rules at reducing budget deficits. Interestingly, ex-ante rules differ from ex-post rules in their effects on forecasting biases. Only ex-post sanctions reduce forecasting biases, while ex-ante rules have no impact on such biases. In addition, we show that political stability and the size of government increase the effective-ness of fiscal rules. If, however, financial markets have a disciplining effect on govern-ments, the effectiveness of fiscal rules is reduced. Our results imply that if fiscal policy rules cannot be effectively enforced, reforming other areas such as electoral rules or financial market regulations might be a more promising approach to ensuring sound public finances than fiscal policy rules.

Item Type:	Journal Article (Original Article)
Division/Institute:	03 Faculty of Business, Economics and Social Sciences > Department of Economics
UniBE Contributor:	Baldi, Guido
Subjects:	300 Social sciences, sociology & anthropology > 330 Economics
ISSN:	1748-7870
Publisher:	Taylor & Francis
Language:	English
Submitter:	Dino Collalti
Date Deposited:	11 Jul 2017 11:46
Last Modified:	05 Dec 2022 15:03
Publisher DOI:	10.1080/17487870.2015.1057509
URI:	https://boris.unibe.ch/id/eprint/96579