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Fiscal Rules as Bargaining Chips

Facundo Piguillem () and Alessandro Riboni ()

No 1804, EIEF Working Papers Series from Einaudi Institute for Economics and Finance (EIEF)

Abstract: Most fiscal rules can be overridden by consensus.We show that the possibility of overridding does not make fiscal rules ineffectual. Since fiscal rules determine the outside option in case of disagreement, the opposition uses fiscal rules as “bargaining chips”. The party in power offers spending concessions to the opposition to avoid the application of the fiscal rule. This political bargain reduces the incentive for inefficient debt accumulation. We analyze three standard fiscal rules: government shutdown, budget balance and mandatory spending, and show that when political polarization is high, a government shutdown provision maximizes the bargaining power of the opposition and leads to a sizeable reduction of debt. When the degree of polarization is low, a balanced budget rule is preferable. Mandatory spending eliminates the incentive to over-accumulate debt by reducing political risk. However, it gives a considerable advantage to the initial incumbent, generating large and persistent static inefficiencies.

Pages: 43 pages
Date: 2018, Revised 2018-03
New Economics Papers: this item is included in nep-cdm, nep-mac and nep-pol
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Related works:
Working Paper: Fiscal Rules as Bargaining Chips (2020) Downloads
Working Paper: Fiscal Rules as Bargaining Chips (2018) Downloads
Working Paper: Fiscal Rules as Bargaining Chips (2018) Downloads
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