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Marco Buti (European Commission)
and André Sapir
(Université Libre de Bruxelles, Bruegel and CEPR)
Fiscal Policy in Europe : A Long View
Second annual Berkeley-Vienna conference:The US and European Economies in Comparative Perspective
Berkeley, September 12-13 2005
I. A CONCEPTUAL FRAMEWORK
3
EUROPE SINCE WWII: Three sub-periods
The Golden age : 1950-1973
The fall from heaven: 1973-1993
Maastricht stabilisation: 1993-2000-2004
Growth 4,5 2,5 1,5
Unemployment 2 8 8
Inflation 4 8 2
Public deficit <2 0 => 6 6 => 1,5 => 3
Government spending <35 37 => 51 51 => 46 => 44
4
An interpretation: the Musgravian triangleGolden age
Redistribution Stabilisation
Allocation
• No trade offs: setting up of the welfare state allows improvement of allocation (correct market failures in unemployment and social insurance), redistribution (via the same programmes) and stabilisation (tax and welfare systems as automatic stabilisers)
• Social welfare maximisation increases the chances of re-election: benevolent government = political economy approach
+
+ +
_~
5
Fall from heaven
Redistribution Stabilisation
Allocation
• Trade offs emerge: between allocation and redistribution/ stabilisation (work incentives hampered)
• Social welfare maximisation ≠ politically motivated behaviour
• Sustainability becomes a problem
- -
6
Maastricht consolidation
Redistribution Stabilisation
Consolidation
Allocation
• Primary focus: discipline/sustainability
• Maastricht consolidation: higher taxes, lower spending impact on Musgrave, in the short and longer run
• Beyond a critical level, reducing taxes may improve allocation and stabilisation
--
--/+
-/+
7
II. THE PAST 30 YEARS
8
GDP growth
-4
-2
0
2
4
6
8
10
1961 1964 1967 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003
DE
FR
IT
UK
EUR-12
9
Unemployment rate
0
2
4
6
8
10
12
14
1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002
DE
FR
IT
UK
EUR-12
10
Inflation
-5
0
5
10
15
20
25
30
1961 1964 1967 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003
DE
FR
IT
UK
EUR-12
11
Budget balance
-14
-12
-10
-8
-6
-4
-2
0
2
4
6
1961 1964 1967 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003
% o
f GD
P
DE
FR
IT
UK
EUR-12
12
Cyclically adjusted primary balance
-8.0
-6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003
% o
f GD
P
DE
FR
IT
UK
EUR-12
13
Public debt
0
20
40
60
80
100
120
140
1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003
% o
f GD
P
DE
FR
IT
UK
EUR-12
14
Total expenditure
20
25
30
35
40
45
50
55
60
1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002
% o
f GD
P
DE
FR
IT
UK
EUR-12
15
Total revenue
20
30
40
50
60
1961 1964 1967 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003
% o
f GD
P
DE
FR
IT
UK
EUR-12
16
III. FUTURE PERSPECTIVES: AGEING KICKS IN
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Demographic changes
2003 2025 2050
D 26 38 52
F 25 37 46
I 28 39 62
UK 24 33 45
EUR-1225 37 53
Old Age Dependency Ratio
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LONG TERM BUDGETARY PROJECTIONS
Non-age related
exp.
2008 2050 2008 2050 2008 2050 2008 2050 Constant 2008 2050
D 11 14,9 5,9 7,1 5,3 5,5 0,9 0,7 18,3 41,4 46,5
F 12,7 14,5 6,4 7,4 5,9 5,5 1 0,7 22,8 48,8 50,9
I 14 14,1 6,4 8,1 4,6 4,2 0,4 0,3 13,4 38,8 40,1
UK 5,1 5,3 7,7 9,7 5,4 5,4 1,4 1,5 20,4 40 42,3
EUR-12 11,1 14 6,1 7,6 5 4,8 1,4 1,2 18,5 42,1 46,1
TOTALAge related expenditure
Pensions Health care Education Others
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The “maximum sustainable” level of debt is decreasing
)()(
ayrasb
sM(a) ↓, y (a) ↓, r ?
a = ageing
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IV. EMU’S FISCAL FRAMEWORK:HELP OR HINDRANCE?
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SGP spirit
The approach chosen by the framers of the SGP was two-pronged:
• The 3% of GDP reference value should be treated as much as possible a ‘hard ceiling’.
• Member States should commit themselves to a “medium-term budgetary objective” of “close-to-balance or in surplus”.
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In the steady state
Sustainability ↓ public debt
Stabilisation CTB + automatic stabilisers
Allocation ↓ public spending
… BUT WE NEVER GOT THERE
23
Lessons from the first 5 years of EMU
• High structural deficits and debts
• Lack of consolidation in good times
• Somewhat better stabilisation (but largely in spite of the rules)
Political assessment
Economic assessment
• Fading ‘ownership’
• Large countries/small countries divide
• Enlargement of the EU heightens the problems
24
SGP reform: motivation
• Sustainability ↓ public debt plus
reforms for ageing
• Stabilisation CTB + automatic stabilisers
plus country differentiation
• Allocation ↓ public spending plus
expenditure quality
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The reformed SGP1. Economic governance• Stability programme for the legislature• Involvement of national parliaments• Reliable forecasts• Better statistical governance
2. Preventive arm• Diversified MTOs• At least 0.5% structural adjustment
3. Corrective arm• Exceptional circumstances• ‘All ORFs’, but only if d>3% is ‘close and temporary’• Debt and sustainability• Repeatability of EDP steps
26
THE OLD AND THE NEW STABILITY PACT: two readings
Old SGP New SGP: collusion
New SGP: genuine
1. Public visibility High but fading Lower
2. Clear incentives
Less clear Easier to get away with
Better rationale
3. Political ownership
Small MS High deficit MS: D+F+I
All MS
4. Constraining calendar
CTB in the medium term
MTO de facto never
MTO in the medium term
5. Collegial culture
Acrimony prevailed
From collegiality to collusion
New collegiality based on trust
