Fiscal Delegation in a Monetary Union with Decentralized Public Spending

41 Pages Posted: 22 Mar 2016

See all articles by Henrique S. Basso

Henrique S. Basso

Banco de España

James S. Costain

Banco de España - Research Department

Multiple version iconThere are 2 versions of this paper

Date Written: February 29, 2016

Abstract

In a monetary union, the interaction between several governments and a single central bank is plagued by several sources of deficit bias, including common pool problems. Each government has strong preferences over local spending and taxation but suffers only part of the costs of union-wide inflation and higher interest rates, creating a tendency towards excessive debt. Motivated by the evident failure of fiscal rules to restrain debt in the European context, this paper analyzes an alternative fiscal regime in which the control of sovereign debt issurance is delegated to an independent authority, while public spending decisions remain decentralized. Using a symmetric perfect-foresight model, we compare the long-run policy biases affecting a typical country across different institutional arrangements. Establishing an independent fiscal authority tends to reduce debt via three distinct channels: first, the debt aversion induced by its mandate; second, its greater patience, compared to an elected institution; and third, the internalization of common pool problems, if the authority is established at the union-wide level. Furthermore, we show that fiscal delegation is more effective in restraining debt, and more informationally efficient, than the establishment of a federal government which would centralize fiscal decisions.

Keywords: fiscal authority, delegation, decentralization, monetary union, sovereign debt

JEL Classification: E610, E620, F410, H630

Suggested Citation

Basso, Henrique S. and Costain, James S., Fiscal Delegation in a Monetary Union with Decentralized Public Spending (February 29, 2016). CESifo Working Paper Series No. 5775, Available at SSRN: https://ssrn.com/abstract=2752867 or http://dx.doi.org/10.2139/ssrn.2752867

Henrique S. Basso

Banco de España ( email )

Alcala 50
Madrid 28014
Spain

James S. Costain (Contact Author)

Banco de España - Research Department ( email )

Alcala 50
28014 Madrid
Spain

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
44
Abstract Views
546
PlumX Metrics