Fiscal Rules as Bargaining Chips

60 Pages Posted: 8 May 2020

See all articles by Facundo Piguillem

Facundo Piguillem

Einaudi Institute for Economics and Finance (EIEF)

Alessandro Riboni

Ecole Polytechnique, Paris - Laboratoire d'Econometrie

Date Written: April 2020

Abstract

Most fiscal rules can be overridden by consensus. We show that this does not make them ineffectual. Since fiscal rules determine the outside option in case of disagreement, the opposition uses them as "bargaining chips" to obtain spending concessions. We show that under some conditions this political bargain mitigates the debt accumulation problem. We analyze various rules and find that when political polarization is high, harsh fiscal rules (e.g., government shutdown) maximize the opposition's bargaining power and leads to lower debt accumulation. When polarization is low, less strict fiscal limits (e.g, balanced-budget rule) are preferable. Moreover, we find that the optimal fiscal rules could arise in equilibrium by negotiation. Finally, by insuring against power fluctuations, negotiable rules yield higher welfare than strict ones.

Keywords: fiscal rules, Government Debt, Government shutdown=, legislative bargaining, Political Polarization

JEL Classification: D72, H2, H6

Suggested Citation

Piguillem, Facundo and Riboni, Alessandro, Fiscal Rules as Bargaining Chips (April 2020). CEPR Discussion Paper No. DP14682, Available at SSRN: https://ssrn.com/abstract=3594315

Facundo Piguillem (Contact Author)

Einaudi Institute for Economics and Finance (EIEF) ( email )

Via Sallustiana, 62
Rome, 00187
Italy

Alessandro Riboni

Ecole Polytechnique, Paris - Laboratoire d'Econometrie ( email )

1 rue Descartes
Paris, 75005
France

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