Fiscal Policy in the European Union

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1 Fiscal Policy in the European Union

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3 Fiscal Policy in the European Union Edited by Jesús Ferreiro Giuseppe Fontana and Felipe Serrano

4 Selection and editorial matter Jesús Ferreiro, Giuseppe Fontana and Felipe Serrano 2008 Chapters individual contributors 2008 Softcover reprint of the hardcover 1st edition All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No portion of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, Saffron House, 6-10 Kirby Street, London EC1N 8TS. Any person who does any unauthorized act in relation to this publication may be liable to criminal prosecution and civil claims for damages. The authors have asserted their rights to be identified as the authors of this work in accordance with the Copyright, Designs and Patents Act First published 2008 by PALGRAVE MACMILLAN Palgrave Macmillan in the UK is an imprint of Macmillan Publishers Limited, registered in England, company number , of Houndmills, Basingstoke, Hampshire RG21 6XS. Palgrave Macmillan in the US is a division of St Martin s Press LLC, 175 Fifth Avenue, New York, NY Palgrave Macmillan is the global academic imprint of the above companies and has companies and representatives throughout the world. Palgrave and Macmillan are registered trademarks in the United States, the United Kingdom, Europe and other countries. ISBN ISBN (ebook) DOI / This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources. Logging, pulping and manufacturing processes are expected to conform to the environmental regulations of the country of origin A catalogue record for this book is available from the British Library. Library of Congress Cataloging-in-Publication Data Fiscal policy in the European Union / edited by Jesus Ferreiro, Giuseppe Fontana and Felipe Serrano. p. cm. Includes bibliographical references and index. 1. Fiscal policy European Union Countries. I. Ferreiro, Jesus. II. Fontana, Giuseppe, III. Serrano Pérez, Felipe. HJ1000.F dc

5 Contents List of Figures List of Tables Notes on the Contributors vii ix xi Introduction Jesús Ferreiro, Giuseppe Fontana and Felipe Serrano 1 1 Fiscal Federalism in the European Union: How Far Are We? Rui Henrique Alves and Oscar Afonso 6 2 Is There Compatibility between the Stability and Growth Pact and Automatic Fiscal Stabilizers? Sabrina Rostaing-Paris 25 3 Stabilization Capacity and Fiscal Policy in the EMU Jorge Uxó González and M. Jesús Arroyo Fernández 53 4 Fiscal Adjustment and Composition of Public Expenditures in the EMU Jesús Ferreiro, M. Teresa García-del-Valle and Carmen Gómez 84 5 Public Capital and Economic Growth: a Spurious Empirical Link? Gwenaëlle Poilon Has France Become a Deficit Running Country? Jérôme Creel, Guy Gilbert and Thierry Madiès How to Deal with Economic Divergences in the EMU? Catherine Mathieu and Henri Sterdyniak 157 v

6 vi Contents 8 A Scheme to Coordinate Monetary and Fiscal Policies in the Euro Area Carlo Panico and Marta Vázquez Suárez 184 Index 209

7 List of Figures 2.1(a) (k) Primary cyclical balance and output gap in European countries from 1992 to Primary cyclical balance vs. output gap (a) (b) Comparison between the size of automatic stabilizers and the reference value with respect of the sign of the output gap in Germany and France since Inflation dispersion in EMU Average inflation rate, GDP rate of growth (average, ) Differences between GDP and trend (rates of growth ) Differences between GDP and trend (rates of growth, sum ) Different cyclical position and single monetary policy in EMU: Spain and Germany Real interest rates Real exchange rates ULCE (1999 = 100) A restrictive demand shock when the competitiveness effect is weak (country 1) A restrictive demand shock when the competitiveness effect is strong (country 1) Evolution of public expenditure and taxation between the periods and (% GDP) Size of public social expenditures before EMU (1990 8) and after EMU ( ) (% GDP) Evolution of productive and unproductive public expenditures according to the functional classification (% GDP) Government budget balance, % of GDP Net and gross public debt, France, % of GDP, and nominal GDP growth Various fiscal surpluses, France, % of GDP 135 vii

8 viii List of Figures 6.4 Cyclically adjusted government primary balance, % of potential output Estimated non-tax revenues and acquisitions and disposals of non-financial assets 144

9 List of Tables 1.1 Financial perspectives for the period Summary table of compliance conditions Automatic fiscal stabilizers, Periods of compatibility between automatic fiscal stabilizers and a balanced or surplus budget in EMU countries since Periods of compatibility between automatic fiscal stabilizers and a budget deficit lower than 3 per cent of GDP Periods of compatibility between automatic fiscal stabilizers and a balanced structural budget combined with a budget deficit limit in EMU countries since Alternative fiscal policy rules Stabilizing and destabilizing mechanism and model parameters Stability conditions with different fiscal policy rules Value of model parameters used in the simulations Evolution of fiscal deficit and public expenditure (% GDP) (a) (c) Evolution of the size of public expenditures (in % GDP) between the periods and by kind of expenditure (economic classification) Public expenditures (in % GDP) by kind of expenditure (functional classification) Evolution of public expenditure between and (a) (b) Evolution of productive and unproductive public expenditure (% GDP) Government net capital as a percentage of GDP Government net capital as a percentage of private non-residential net capital Studies based on a Cobb-Douglas production function in level Studies with first differences 114 ix

10 x List of Tables 5.5 Augmented Dickey-Fuller stationarity test Johansen test results Estimation results using first-differences for France, Germany and Italy Johansen test results OLS results with individual effects Final results with GMM Discretionary fiscal policy over the electoral cycle in France ( ) Fiscal deficits and the political cycle: contributions to the cumulative change in general government surplus (in percentage points of GDP) over the last three decades Fiscal deficits and the business cycle: contributions to the cumulative change in general government surplus (in percentage points of GDP) over the last three decades Contributions to the rise of general government net financial liabilities (in percentage points of GDP) GDP growth rates and GDP per head Unemployment and employment rates Inflation and real interest rates Taylor rules and effective central bank rates External positions and savings ratios Fiscal policies Public finance sustainability in Employment protection indicators Economic performance disparities in the EU Disequilibrium index 171

11 Notes on the Contributors Oscar Afonso is Assistant Professor in Economics in the Faculty of Economics at the University of Porto. He has a PhD degree from the University of Porto. His research interests are in the areas of macroeconomics and international trade. In particular, he is now working on the subject of wage inequality and economic growth. He is the author of a number of papers on those subjects in refereed journals (Applied Economics, Economic Modelling, Intereconomics, International Economic Journal, Journal of International Trade and Economic Development) and of chapters in edited books. Rui Henrique Alves is Invited Lecturer in the Faculty of Economics at the University of Porto, Portugal, where he teaches European Economics, International Economics and Macroeconomics. For some years, he has also been adviser of the Portuguese Exchange in the area of training and education. He holds an MSc degree in Economics and is currently waiting for the approval of his PhD thesis in European Economics. His main areas of research include political and economic organization of the European Union, fiscal federalism, fiscal policies and macroeconomic effects. He has published a book and several articles concerning these areas. M. Jesús Arroyo Fernández has a PhD in Economics from the Universidad de Alcalá (Madrid, Spain). She is Associate Professor of Economics (with tenure) at the Universidad CEU San Pablo, Madrid, Spain. She teaches Macroeconomic Policies and Applied Economics. Her main investigation lines are monetary and fiscal policies in EMU, activist fiscal policy rules and new normative macroeconomics. She has published a number of articles in specialized journals and she is author of some contributions to books on economic policy. Jérôme Creel has been a Deputy Director at Observatoire Français des Conjonctures Economiques (OFCE, Sciences Po) in Paris since 2003, and a Professor of Economics at ESCP-EAP European School of Management since He has been the Academic Dean of the European Studies Programme at Sciences Po since 2006, and was a Junior and then Senior Economist at OFCE, starting in He holds a PhD from the University of Paris-Dauphine in Economics (summa cum laude). His works, xi

12 xii Notes on the Contributors published in leading journals in the field of macroeconomics, have dealt with monetary and fiscal policies in the EMU, including coordination issues, the economics of EU enlargement and institutional economics, notably related to the Constitutional Treaty and delegation issues. Jesús Ferreiro is Associate Professor in Economics at the University of the Basque Country, in Bilbao, Spain. He has a PhD from the University of the Basque Country. His research interests are in the areas of macroeconomic policy, labour market and international financial flows. He has published a number of articles on those topics in edited books and in refereed journals such as Economic and Industrial Democracy, Economie Appliquée, Ekonomia, European Planning Studies, International Review of Applied Economics, and the Journal of Post-Keynesian Economics. Giuseppe Fontana is Professor of Monetary Economics at the University of Leeds (UK) and Associate Professor at the Università del Sannio (Italy). He has recently been awarded the 2008 L. S. Shackle Prize, St Edmunds College, Cambridge (UK). He is a Life Member Fellow at Clare Hall (University of Cambridge, UK), and a Visiting Research Professor at the Centre for Full Employment and Price Stability (University of Missouri Kansas City, USA), and the Cambridge Centre for Economic and Public Policy (University of Cambridge, UK). He has recently published Money, Time, and Uncertainty with Routledge. Teresa García-del-Valle is Associate Professor of Statistics at the University of the Basque Country, in Bilbao, Spain. She has a PhD from the University of the Basque Country. Her research interests are in the area of applied statistics. She has published a number of articles on this topic in books, edited books and in refereed journals. She has been Invited Professor in several Latin American universities, such as Universidad Autónoma Juan Misael Caracho (Tarija, Bolivia), Universidad Nacional Autónoma de México (México, D.F.) and Universidad del Salvador (El Salvador). Guy J. Gilbert is Full Professor of Economics at the Ecole Normale Supérieure at Cachan (Department of Social Sciences). He is a member of the Centre d Economie de la Sorbonne-Paris I University, and a member of Paris School of Economics. His major field of research is public economics and the economics of public finance. He has published several books and numerous articles in academic journals, relating to taxation, fiscal decentralization and fiscal federalism.

13 Notes on the Contributors xiii Carmen Gómez is Lecturer in Economics at the University of the Basque Country, in Bilbao, Spain. She has a PhD from the University of the Basque Country. Her research interests are in the areas of macroeconomic policy, labour market and international financial flows. She has published a number of articles on those topics in edited books and in refereed journals such as Comercio Exterior, Economic and Industrial Democracy, Economie Appliquée, and Problemas del Desarrollo. Thierry Madiès is Full Professor of Economics at the University of Fribourg (Switzerland) and a member of the Council of Economic Analysis of the French Prime Minister. His field of research concerns public finance and international economics. Catherine Mathieu is a Senior Economist, Analysis and Forecasting Department, OFCE (Observatoire Français des Conjonctures Economiques), Paris. Her current research areas include: European macroeconomic analyses, UK economy, and macroeconomic forecasting. She is Chairwoman of the Medium term prospects and structural changes working group, AIECE (Association of European Conjuncture Institutes) and a member of the EUROFRAME group of research institutes. Recent publications include: A European Framework Designed for Stability or Growth?, co-authored with Henri Sterdyniak, European Economic Policies: Alternatives to Orthodox Analysis and Policy Concepts, Metropolis- Verlag (2006); Comment expliquer les disparités économiques dans l UEM?, co-authored with Henri Sterdyniak, Revue de l OFCE, 102 (2007); and Le modèle social européen et l Europe sociale, co-authored with Henri Sterdyniak, Revue de l OFCE, 104 (2008). Carlo Panico is Professor of Economics at the University of Naples Federico II (Italy). He has articles published in the Cambridge Journal of Economics, Contributions to Political Economy, Economic Journal, Metroeconomica, and the European Journal of the History of Economic Thought and has published monographs on the theory of growth and distribution and on the theory of money. His research interests are the influence of monetary phenomena on growth and distribution and the history of economic analysis (among other authors, Marx, Marshall, Keynes, Myrdal, Harrod, Sraffa and Kaldor), the development of British monetary orthodoxy in the nineteenth century, the formation of the European Monetary Union, the relationship between central bank independence and democracy, the debate on the Marshallian supply curves, the coordination of policies within the European Union, the influence on regional development of

14 xiv Notes on the Contributors the institutional framework and of the different forms of planning government intervention. Gwenaëlle Poilon is a PhD student in the programme Economic Governance directed by Jean-Paul Fitoussi in the Institut d Etudes Politiques de Paris; her research centre is the Observatoire Français des Conjonctures Economiques (OFCE). Her dissertation deals with the Stability and Growth Pact; more precisely, on the Golden Rule of Public Finances that has been proposed as a reform for the actual Stability and Growth Pact. Her research interests are European economic policies and education and health topics. Sabrina Rostaing-Paris is a Lecturer at the University of Bordeaux 4. She has a Masters degree in Macroeconomics from the University of Aix- Marseille 2, France. Her areas of interest are macroeconomics, public finances, fiscal policy and the economy of the European Union. Felipe Serrano is Professor in Economics at the University of the Basque Country, in Bilbao, Spain He is the head of the Department of Applied Economics V at the University of the Basque Country. His research interests are in the areas of social security, the welfare state, labour market, innovation and economic policy. He is the author of a number of articles on those topics in edited books and in refereed journals such as Economies et Sociétés, Ekonomia, European Planning Studies, International Review of Applied Economics and the Journal of Post-Keynesian Economics Henri Sterdyniak is Head of the Economics of Globalization Department at OFCE (Observatoire Français des Conjonctures Economiques), Paris, and Professor of Economics at the University of Paris-Dauphine. He is a member of the Steering Committee of AFSE (Association Française de Science Economique) and of EUROFRAME (European network of economic institutes). He has published many articles on macroeconomics, economic policy, monetary and international economics, European economy, fiscal and social issues. Recent publications include: A European Framework Designed for Stability or Growth?, co-authored with Catherine Mathieu, European Economic Policies: Alternatives to Orthodox Analysis and Policy Concepts, Metropolis-Verlag (2006); Comment expliquer les disparités économiques dans l UEM?, co-authored with Catherine Mathieu, Revue de l OFCE, 102 (2007); and Le modèle social européen et l Europe sociale, co-authored with Catherine Mathieu, Revue de l OFCE, 104 (2008).

15 Notes on the Contributors xv Jorge Uxó González has a PhD in Economics from Universidad Complutense de Madrid. He is Associate Professor of Economics at the Universidad CEU San Pablo, Madrid, Spain, where he has been Dean of the School of Business and Economics and Chief of the Department of Economics. He teaches Macroeconomic Policies and Applied Economics. His main investigation lines are monetary and fiscal policies in EMU, activist fiscal policy rules, new consensus on macroeconomics and new normative macroeconomics. He has published a number of articles in specialized journals such as Applied Economics, Hacienda Pública Española, and Pensamiento Iberoamericano, and he is author of several contributions to books on economic policy. Marta Vázquez Suárez has a PhD in Economics from Santiago de Compostela University, Spain. After her graduation in Economics Sciences in 2002, she received a scholarship to do a postgraduate course, combining it with teaching economics and with her investigation about foreign investment, trade and growth in Spain for the Santiago University. Afterwards she oriented the research towards the developing economies, combining the investigation work carried out at universities in Mexico, Spain and Italy.