Austerity, Fiscal Uncertainty, and Economic Growth: Insights from Fiscally Weak EU Countries

SAFE Working Paper No. 56

42 Pages Posted: 27 Jun 2014 Last revised: 25 Feb 2015

See all articles by Giuliano Curatola

Giuliano Curatola

Goethe University Frankfurt - Research Center SAFE

Michael Donadelli

Goethe University Frankfurt - Research Center SAFE

Alessandro Gioffré

University of Florence - Department of Economics and Management; Goethe University Frankfurt - Research Center SAFE

Patrick Grüning

Bank of Lithuania - Center of Excellence for Finance and Economic Research (CEFER); Vilnius University - Faculty of Economics and Business Administration; Research Center SAFE

Date Written: August 8, 2014

Abstract

Recent empirical evidence suggests that during the last years fiscally weak European countries significantly cut their R&D budgets in an effort to reduce their deficit, according to the spirit of the Fiscal Compact. We propose a general equilibrium model that endogenously captures the trade-off between costs and benefits of austerity measures driven by a zero-deficit policy. Our analysis suggests that cuts in R&D spending undermine economic growth both in the short and the long run. We use our model to estimate the reduction of economic growth due to R&D cuts implemented by fiscally weak European countries during the period 2010-2012. The model predicts a reduction in real growth by 0.63%, 2.93%, and 4.46%, in the next 1, 5, and 10 years, respectively. Moreover, we show that the zero-deficit constraint hampers economic growth in the presence of either a productivity drop or a spending stimulus.

Keywords: Austerity Measures, Fiscal Policy, Endogenous Growth, R&D

JEL Classification: G12, G15

Suggested Citation

Curatola, Giuliano and Donadelli, Michael and Gioffré, Alessandro and Grüning, Patrick, Austerity, Fiscal Uncertainty, and Economic Growth: Insights from Fiscally Weak EU Countries (August 8, 2014). SAFE Working Paper No. 56. Available at SSRN: https://ssrn.com/abstract=2458855 or http://dx.doi.org/10.2139/ssrn.2458855

Giuliano Curatola

Goethe University Frankfurt - Research Center SAFE ( email )

(http://www.safe-frankfurt.de)
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

Michael Donadelli

Goethe University Frankfurt - Research Center SAFE ( email )

(http://www.safe-frankfurt.de)
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

Alessandro Gioffré

University of Florence - Department of Economics and Management ( email )

Via delle Pandette, 9
Firenze, Florence 50127
Italy

Goethe University Frankfurt - Research Center SAFE ( email )

(http://www.safe-frankfurt.de)
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

Patrick Grüning (Contact Author)

Bank of Lithuania - Center of Excellence for Finance and Economic Research (CEFER) ( email )

Totoriu g. 4
Vilnius, LT-01121
Lithuania
+370 5 2680 069 (Phone)

HOME PAGE: http://www.lb.lt/en/dr-patrick-gruning

Vilnius University - Faculty of Economics and Business Administration ( email )

Sauletekio al. 9 (II building)
Vilnius, LT-10222
Lithuania

HOME PAGE: http://www.evaf.vu.lt/en/

Research Center SAFE ( email )

Goethe University Frankfurt
Theodor-W.-Adorno Platz 3
Frankfurt am Main, D-60629
Germany

HOME PAGE: http://safe-frankfurt.de/research/researchers/researchers-details/showauthor/92-gruening.html

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