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Economic Fluctuations and Fiscal Policy in Europe: A Political Business Cycles Approach Using Panel Data and Clustering (1996–2013)

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Abstract

The European Monetary Union (EMU) is the only Union that allows its members to conduct their own fiscal policy, which has to be consistent with the Maastricht treaty. This paper attempts to shed light on business cycles determinants focusing on fiscal variables in EU economies, in the time period 1996–2013, using quarterly data fully capturing the on-going recession. In this context, it also acknowledges the significant role of the Quality of Institutions and of the Elections in a Political Business cycles framework. Additionally, based on the business cycles characteristics of the EU economies it explores the potential formation of clusters in the EU economy. To this end, a number of relevant econometric techniques are employed such as: HP filtering, LLC tests; Ljung-Box tests; Fourier analysis; Rolling windows; Dynamic Panel Data analysis; Toda-Yamamoto causality test, Panel Seemingly Unrelated Regressions (SUR) and k-means clustering. Our findings suggest that Social Benefits, Social Transfers and Gross Debt are the most significant policy variables with a counter-cyclical character, while taxation was found to have a destabilizing effect. In addition, Elections and the Quality of Institutions were found to significantly affect the key fiscal variables examined. Meanwhile, most peripheral countries lie in one cluster suggesting that the recent crisis has led a number of small(-er) peripheral economies to cluster together.

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Notes

  1. Other relevant approaches for assessing the role of fiscal policy on business cycle stabilization would be to estimate the response of fiscal variables to the cycle or to assess the impact of fiscal policy on output volatility. We would like to thank an anonymous referee for pointing this out.

  2. Alternatively, IV or biased correct LSVD estimators have been used but the results did not change significantly.

  3. Also, several other important factors, such as Private Investment, Corruption, Openness, Political orientation of the Government, Trade relations and Labour forms, have been considered as determinants of the key fiscal variables. Nevertheless, none of them had statistically significant effects and were, thus, dropped from all three equations.

  4. In addition we use OECD quarterly data regarding the GDP of the UK, Sweden and Denmark, in 2005 prices in billions of dollars.

  5. Given that some of the data were not available, following Pesaran et al. (2004), we intra-polated the missing observations.

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Acknowledgments

The second (T.P.) and third (P.G.M.) authors would like to thank Margarita Katsimi, Athens University of Economics and Business, for helpful comments on other versions of this manuscript. Finally, the second author (T.P.) kindly acknowledges the financial support provided by the IKY Postdoctoral Scholarship (Siemens programme).

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Authors and Affiliations

  1. Laboratory of Theoretical and Applied Economics; School of Applied Mathematical and Physical Sciences, National Technical University of Athens, Heroon Polytechneiou 9, 157.80, Zografou Campus, Greece

    Konstantinos N. Konstantakis, Theofanis Papageorgiou & Panayotis G. Michaelides

  2. Lancaster University, Lancaster, UK

    Efthymios G. Tsionas

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  1. Konstantinos N. Konstantakis
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  2. Theofanis Papageorgiou
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  3. Panayotis G. Michaelides
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  4. Efthymios G. Tsionas
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Correspondence to Panayotis G. Michaelides.

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We are indebted to the Editor, George Tavlas, and the anonymous Referees of this Journal for their constructive comments that have helped to us improve the quality of the paper significantly.

Appendix

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Table 9

Table 9 Data and variables
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Table 10

Table 10 LLC Stationarity test (original & first differenced variables)
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Konstantakis, K.N., Papageorgiou, T., Michaelides, P.G. et al. Economic Fluctuations and Fiscal Policy in Europe: A Political Business Cycles Approach Using Panel Data and Clustering (1996–2013). Open Econ Rev 26, 971–998 (2015). https://doi.org/10.1007/s11079-015-9345-0

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