Endogenous Fiscal Consolidations

38 Pages Posted: 27 Mar 2011

See all articles by Pablo Hernández de Cos

Pablo Hernández de Cos

Banco de España

Enrique Moral-Benito

Banco de España; Universidad Carlos III de Madrid

Date Written: March 22, 2011

Abstract

There is evidence in the literature of fiscal consolidation episodes producing (non-Keynesian) expansionary effects (e.g. Alesina and Ardagna, 1998). We replicate this result for a panel of OECD countries under exogeneity of the fiscal tightening decision, and provide evidence that this decision is endogenous to GDP so that the exogeneity assumption might be inappropriate. Once this endogeneity is taken into consideration, we find that fiscal consolidations have a negative impact on GDP as expected in a Keynesian framework. We also investigate the determinants of successful consolidations. In particular, we use model averaging to overcome the problem of model uncertainty, and conclude that economic recovery and cuts in public wages are the most important ingredients of a consolidation program for successfully reducing budget deficits.

Keywords: Fiscal consolidation, panel data, endogeneity, model averaging

JEL Classification: H30, H62, C23

Suggested Citation

Hernández de Cos, Pablo and Moral-Benito, Enrique, Endogenous Fiscal Consolidations (March 22, 2011). Banco de Espana Working Paper No. 1102. Available at SSRN: https://ssrn.com/abstract=1792507 or http://dx.doi.org/10.2139/ssrn.1792507

Pablo Hernández de Cos (Contact Author)

Banco de España ( email )

Madrid, 28014
Spain

Enrique Moral-Benito

Banco de España ( email )

Alcala 50
Madrid 28014
Spain

Universidad Carlos III de Madrid ( email )

CL. de Madrid 126
Madrid, Madrid 28903
Spain

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