Fiscal Incentive Effects of the German Equalization System

30 Pages Posted: 14 Jun 2009

See all articles by Sven Jari Stehn

Sven Jari Stehn

Brasenose College; International Monetary Fund (IMF)

Annalisa Fedelino

International Monetary Fund (IMF)

Date Written: June 2009

Abstract

Does reliance on transfers weaken fiscal discipline and encourage pro-cyclical fiscal policies in recipient subnational governments? Using fiscal reaction functions for a panel of the German Länder, this paper finds a positive answer to both questions. Net-recipient states (Länder, benefiting from the transfer system) have not reduced primary expenditure significantly in response to rising deficits, but have instead relied on vertical transfers from the federal government to ensure debt sustainability. Moreover, they have pursued pro-cyclical policies, particularly by raising expenditures in good times. Net-contributing Länder (paying into the transfer system), in contrast, have ensured fiscal sustainability through spending adjustments; they have also been less pro-cyclical. Panel vector auto-regressions confirm these findings.

Suggested Citation

Stehn, Sven Jari and Fedelino, Annalisa, Fiscal Incentive Effects of the German Equalization System (June 2009). IMF Working Papers, Vol. , pp. 1-29, 2009. Available at SSRN: https://ssrn.com/abstract=1418918

Sven Jari Stehn

Brasenose College ( email )

Oxford OX1 4AJ
United Kingdom

International Monetary Fund (IMF)

700 19th Street, N.W.
Washington, DC 20431
United States

Annalisa Fedelino

International Monetary Fund (IMF) ( email )

700 19th Street NW
Washington, DC 20431
United States

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