The Fiscal Costs of Financial Instability Revisited
46 Pages Posted: 19 May 2003
Date Written: November 2002
Abstract
This paper conducts a comprehensive analysis of the fiscal costs of financial instability (defined as major asset price changes and including, as extreme cases, financial crises). The study identifies three channels to fiscal accounts: 1) revenue effects on capital gains, asset turnover and consumption tax, 2) bailout costs as asset price declines undermine balance sheets of companies/banks, and 3) second-round effects from asset prices changes via the real economy and via debt service costs. A panel analysis and case studies show that episodes of financial instability increase the variability of fiscal balances. Moreover, fiscal costs are often very large and much larger than assumed in the literature so far with public debt rising by up to 50% of GDP during episodes. These fiscal effects can also serve as a, so far under-emphasised, rationale for the deficit and debt targets in the EU's Maastricht Treaty and Stability and Growth Pact.
Keywords: Fiscal policies, deficits, asset prices, financial stability, financial crisis
JEL Classification: H3, H6, E6
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
Structural Balances and Revenue Windfalls: The Role of Asset Prices Revisited
By Richard Morris and Ludger Schuknecht
-
Short- and Long-Run Tax Elasticities: The Case of the Netherlands
-
Fiscal Policy and the Current Account
By S. M. Ali Abbas, Jacques Bouhga-hagbe, ...
-
Fiscal Deficits and Current Account Deficits
By Michael Kumhof and Douglas Laxton
-
By Qiang Dai