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Government ideology and fiscal consolidation: Where and when do government parties adjust public spending?

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Abstract

Recent studies indicate that the ideological stances of government parties no are longer associated with differences in total government spending. At the same time, we observe that political polarization over spending policies has deepened. This paper addresses that puzzle by analyzing government spending behavior for ten expenditure categories during both ‘normal’ times and periods of fiscal consolidation between 1995 and 2015 for 16 OECD countries. Our results indicate that partisan motives prevail in ‘normal’ times: right-wing cabinets spend more on defense and less on education and environmental protection than left-wing governments. On the other hand, in periods of fiscal adjustment, differences between left- and right-wing government expenditures can be observed mostly in different budget categories. For instance, during fiscal consolidations, right-wing governments reduce spending more than their left-wing counterparts on those categories featuring large shares of public employee compensation (i.e., public consumption spending) and small capital-expenditure shares. Hence, a central message of this paper helping to resolve the aforementioned puzzle is that ideological differences remain important after taking a comprehensive look at individual spending categories and distinguishing between periods with and without adjustments.

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Notes

  1. See also Alesina et al. (2017), who study a sample of 16 OECD countries during the 1978–2015 period, finding that government spending and transfer cuts are less detrimental to future GDP growth than tax increases. While tax adjustments typically complement spending cuts during periods of fiscal consolidation, their magnitude is on average smaller than spending cuts by a factor of almost four.

  2. Examples of the recent electoral successes of far-left and -right parties are Die Linke and the Alternative für Deutschland in Germany, the United Kingdom Independence Party in the UK, the Lega Nord in Italy, the Rassemblement National/Front National in France, the Freiheitliche Partei Österreichs in Austria and Podemos and VOX in Spain.

  3. The narrative method identifies consolidation policies by reference to budget documents indicating that the primary policy objective was not to stabilize the economic cycle. Consequently, the fiscal adjustments identified by that approach prove to be uncorrelated with the business cycle (Alesina et al. 2018). Moreover, it has been argued that such narratives do not suffer from weak identification nor reverse causality biases (Guajardo et al. 2014).

  4. For an extensive review of the literature on external and internal adjustments, see Walter (2003).

  5. The composition of the sample is explained by the availability of data from distinct sources. Observations on fiscal adjustments are available for the 1980–2014 period. Data on total and disaggregated public spending are available for the 1995–2015 period. See also Tables 1 and 2 for details on measurement, data sources and descriptive statistics.

  6. For example, 2011’s target was reducing budget deficits to 4.8% of GDP for the central government and 1.3% of GDP for the state governments (`Comunidades Autónomas´), thereby demanding a much larger effort from the latter, as the expenditure shares of central and state governments over GDP were almost identical beforehand.

  7. The histogram for a pooled sample of total expenditure growth rates can be found in the Supplementary material to this paper. For the case of Ireland, available data indicate a 34.26% growth of total public expenditures in 2010, followed by a subsequent 30.26% reduction in 2011. Those sharp expenditure changes are explained by strong (upward and downward) shifts (of + 135.35% and − 117.54%, respectively) in the Economic affairs category. To guard against the influence of such outliers on our empirical estimates, we have removed the 2010 and 2011 observations for Ireland from the sample.

  8. If one party holds the majorty in Parliament, ideo is the ideology of that party. In the United States, ideo is the ideology of the President’s party.

  9. Since elec is a weighted variable and election dates are almost uniformly throughout the calendar year, the mean of elec is 0.247. On average, regular elections took place every fifth year. The number of elections in our sample is 89. Among them, the number of irregular elections is 27. In the robustness section of our results, we also use the measurement of the electoral cycle proposed by Schuknecht (2000).

  10. We also have considered estimating random-effect (RE) regression models. However, noticing significant differences among parameter estimates for a few spending categories, we consider FE estimation as more suitable owing to its robustness to eventual correlations between unobservable heterogeneity and our explanatory variables. In qualitative terms, RE and FE models return almost identical regression results (see also the descriptive statistics in Table 2 on the prevalence of sizable within variation). Summary results for Hausman tests comparing FE and RE estimates are given in the notes to those tables that report outcomes for the general regression model in (1).

  11. All empirical conclusions largely remain unaffected by the inclusion or exclusion of first-order dynamics.

  12. The five categories with the largest shares of employee salaries are: Public order and safety ≈ 70%, Education ≈ 60%, Defense ≈ 50%, Recreation, culture and religion and Health ≈ 30%. Apart from Social protection, capital spending is lowest in Health (≈ 4%), Public order and safety (≈ 5%) and Education (≈ 7%). For details, see Eurostat (2019).

  13. All tables reporting the results of the robustness checks are contained in the online supplementary material to this paper.

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Acknowledgements

We cordially acknowledge helpful suggestions from four anonymous referees, the editor in chief, William F. Shughart II, and the participants of the International Conference on Public Economic Theory (PET 2019) in Strasbourg. The second author acknowledges financial support from the Spanish Ministerio de Economía, Industria y Competitividad and the European Union under project ECO2016-75410-P (AEI/FEDER, UE) and Universitat Rovira i Virgili and Generalitat de Catalunya under projects 2017PRF-URVB2-B3 and 2017GR770. We thank Dr. Viet T. Tuan for computational assistance.

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  1. Department of Economics, Georg-August-University, Goettingen, Germany

    Helmut Herwartz

  2. Departament d’Economia and CREIP, Universitat Rovira i Virgili, Reus, Spain

    Bernd Theilen

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Herwartz, H., Theilen, B. Government ideology and fiscal consolidation: Where and when do government parties adjust public spending?. Public Choice 187, 375–401 (2021). https://doi.org/10.1007/s11127-020-00785-7

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