WP 2015/01: Membership in the euro area and fiscal sustainability. Analysis through panel fiscal reaction functions

Andrzej RzońcaPiotr CiżkowiczRafał Trzeciakowski 9 Aprile 2015

We estimate various panel fiscal reaction functions, including those of main categories of general government revenue and expenditure for 12 Euro area member states over the 1970-2013 period. We find that in the peripheral countries where sovereign bond yields decreased sharply in the years 1996-2007, fiscal stance ceased to respond to sovereign debt accumulation. This was due to lack of sufficient adjustment in government non-investment expenditure and direct taxes. In contrast, in the core member states, which did not benefit from yields’ convergence related to the Euro area establishment, responsiveness of fiscal stance to sovereign debt increased during 1996-2007. It was achieved mainly through pronounced adjustments in government non-investment expenditure. Our findings are in accordance with predictions of theoretical model by Aguiar et al. (2014) and are robust to various changes in modelling approach.

Piotr Ciżkowicz
Warsaw School of Economics

Andrzej Rzońca
Warsaw School of Economics and
Monetary Policy Council in the National Bank of Poland

Rafał Trzeciakowski
Warsaw School of Economics

Andrzej Rzońca Scuola di Economia di Varsavia
Piotr Ciżkowicz Scuola di Economia di Varsavia
Rafał Trzeciakowski Scuola di Economia di Varsavia
fiscal reaction function, sovereign bond yields’ convergence, fiscal adjustment composition
JEL Codes
C23, E62, F34, H63
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