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Symposium 2012

Proposal - Fiscal Consolidation through Fiscal Rules?

The Challenge

Large and growing ratios of public debt to GDP in many countries are demanding vigorous efforts to achieve fiscal consolidation. Many observers believe that a fiscal rule should be the central element ...

Large and growing ratios of public debt to GDP in many countries are demanding vigorous efforts to achieve fiscal consolidation. Many observers believe that a fiscal rule should be the central element of a successful strategy: they argue that a rule would restrict discretionary actions by governments, thereby strengthening the credibility of consolidation. But there are substantial differences of opinion on the precise specification of the rule.

Fiscal rules to support fiscal consolidation should consist of a long-term target for the debt/ GDP ratio and an operating target for the budget deficit.  The long-term target could be formulated as a maximum value for the debt GDP ratio, e.g. 60 per cent as in the Maastricht treaty ( or a lower value to provide an additional safety cushion). Consolidation policy to reach this target should operate via a target for the budget deficit. The reason is that parliaments decide about budgets, and that budget figures are usually easier to communicate to the public than debt ratios. A possible operating target would be a balanced budget over the cycle. Using the period of the business cycle helps to reduce the risk of a pro-cyclical budgetary policy. Surpluses or windfall profits during the consolidation phase should be fully used for debt reductions.

An independent fiscal council should be established to provide an ex-ante safeguard against the passing of budget laws that would violate the fiscal rules. The council regularly assesses the proposed budget, and makes violations of the rule public (watchdog-function). It also assesses whether such violations are covered by existing emergency procedures. If it finds that this is not the case, this could trigger various impediments to the passing of the budget.  The strongest impediment would be the one where the budget cannot be passed without the approval of the fiscal council.

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    Rules to Control Government Spending

    True - rules can be broken, but breaking them imposes costs and having them historically has provided some discipline. As a consequence, a combination of a spending rule with immediate spending cuts t ...

    True - rules can be broken, but breaking them imposes costs and having them historically has provided some discipline. As a consequence, a combination of a spending rule with immediate spending cuts to make more credible the action of the government can be effective ways to enhance the economic security of a country. There are a number of potential rules that can be used. My expertise is the United States so I will focus on the US. The closest we came at the Federal level to a spending rule was the Gramm-Rudman-Hollings Balanced Budget Act of 1985. Current plans by

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