Abstract
In comparative political economy, two elements likely to cause fiscal profligacy have received particular attention from researchers: weak budgetary institutions and governmental fragility, especially the fragility related to coalition government. A recent trend in political economy studies integrates both of these aspects, stating that strong budgetary institutions can overcome the tendency of fiscal mismanagement often seen in coalition governments. However, these recent studies have dismissed an important point. Namely, a more rigorous implementation of “interaction effect” analysis might have led to the conclusion that effects of budgetary institutions could weaken under a single party government. Such argument, if it is true, can be contradictory to the results of the pioneering studies in this area, which acknowledged the effectiveness of budgetary institutions in preserving fiscal sanity in the case of a single or nearly single-party government (Hallerberg and von Hagen, in Electoral institutions, cabinet negotiations, and budget deficits in the European union. NBER, pp 209–232, 1999). This paper refutes the hypothesis of ineffectiveness of budgetary institutions on fiscal discipline in the case of a single-party government, by using two additional empirical strategies. One is the adoption of Error Correction Model, used especially for the study of long-run (steady state) effects, taking into full account the particularity of “institutions”. The other strategy involves enlarging the sample. Traditional samples consist of 15 EU countries [e.g. the database of von Hagen and other researchers (Hallerberg et al. in J Polit Econ 23(2):338–359, 2007)]. In this paper the sample was enlarged using the database of Fabrizio and Mody (Econ Polit 22(3):362–391, 2010), which includes East European countries with further addition of 4 more countries (Japan, Australia, Canada and New Zealand). The resultant sample of 29 countries covers most of the parliamentary democracies among industrial nations. Using this new sample, we found that budgetary institutions are still effective in restraining fiscal mismanagement under a single-party government, but such effectiveness may be weak. However, dividing all the available indices of budgetary institutions into two categories, one being insensitive to the number of governmental parties, the other dependent on this number, enables us to find a clearer effect in the former group even under a single-party government, while the latter category is found to be effective under a coalition government. So far the only explanatory background of the fiscal effectiveness of budgetary institutions was provided by the theory of Common Pool Resources. To make a new classification, we introduced two additional aspects to the theoretical background: one being Time Consistency, and the other being a Multi-Principal Model. A new theoretical classification of budgetary institutions suggests that for single-party governments we should concentrate efforts of budgetary reform to assure Time Consistency. We must have a good numerical fiscal target, top-down budgeting in agenda setting, and only rare use of supplementary budgets. For coalition governments, incomplete contracts concerning the multiparty agreement makes fiscal planning less effective. To overcome this, parliamentary and administrative budgetary procedures should be carefully controlled according to the theory of Common Pool Resources and Multi-Principal Model.
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Notes
To have relatively clear results, it is important to enlarge the sample in institutional studies that aim at discovering inherently subtle institutional effects. For example, Hallerberg et al. [27] divided the sample into delegation states and commitment states and obtained relatively imprecise results. We avoided such a division of the samples.
Hallerberg and von Hagen [25] classified their sample of 15 EU countries into delegation states and commitment states. The former group is mainly composed of single-party governments (often with a majority electoral system), and the latter is composed of coalition governments (often with proportional representation). They considered partially different mixes of budgetary institutions for each group [26, 27].
The tendency towards fiscal profligacy in coalition governments has gathered a lot of attention and related research effort from (especially European) researchers, although in reality, the outstanding debt of countries of typically multiparty coalition governments (Nordic countries and Benelux) was relatively limited, while most of the countries with single or nearly single party government (Greece, Portugal, Spain and Ireland as well as Japan) accumulated substantial outstanding debt. The only exception is Italy. There is some discrepancy between “mediatized” public finance of coalition governments and the very serious fiscal condition of single-party governments.
The use of both the original figure and its “inverse” figure is recommended in Berry et al. [12] to check for possible inconsistency in the logic (policy implication).
In the case of a single-party government, the number of governmental parties is obviously "one", and the ideological gap indicator is zero, because there is no ideological gap between “different” governmental parties. De Haan et al. [16] have indeed shown that budgetary institutions are effective in keeping fiscal discipline when the number of governmental parties or the ideological range (“fragmentation” indicator or maximal ideological gap) is superior to one (zero), implying that the budgetary institutions are effective only for coalition governments (thus, not for single-party governments).
ECM has often been implemented with the cointegration relationship between nonstationary variables, but this is not the focus of this paper. In this paper’s settings it might be natural to limit the analysis to stationary data. We tested the unit root and used the panel ADF test, and applied both to dependent and all the independent variables of stochastic nature, as well as to the residuals of OLS estimation, which might detect unit root in variables, in cases without cointegration relationship. The results show that we should not worry about the non-stationarity in our study's setting (see Table 4 and 5).
Besides, ECM used in this study is a single equation version of ECM. However, using the single equation ECM approach, weak exogeneity test is required and implemented in this paper, without which exogeneity of independent variables cannot be assured.
Franzese [23] is an example of ECM study in the field of political economy of political (not budgetary) institutions, but it does not use ECM for long-term effects. Martin and Vanberg [32] use Autoregressive Distributed Lag Model for the study of budgetary institutions, but they do not deal with long-term effects either.
The data availability of the sample countries adopted in this paper is generally from 1972 to 2010, except Australia (90-), Bulgaria (99-), Czech (97-), Estonia (97-), France (79-), Hungary (96-), Ireland (91-09), Latvia (95-), Lithuania (98-), Luxembourg (91-), New Zealand (87-), Poland (96-), Portugal (78-), Romania (96-), Slovakia (95-), Slovenia (96-), Spain (79-).
NB We modified French I2 indicator to 1.28 from 2006 reflecting French LOLF budgetary reform.
July–August 2012 for Australia, September 2012 for Canada, and March 2013 for New Zealand.
Although the scores of budgetary institutions vary from 0 to 4 points for each case, we use these scores in our estimation by normalizing all the scores to 0-1 scores. Thus, any composite indicator gathering the whole or some part of these indicators is estimated as the average of these 0-1 scores.
Another reason to avoid budget balance is that it is likely to be linked to other variables, and violate the weak exogeneity condition of single equation ECM.
Recent studies [6, 27, 32] tend to integrate variables created by (a) weighting the original variable for each government in a calendar year by the portion of the year the government was in power and then (b) summing the weighted measures across all governments in that year. We follow suit and generalize this procedure to all political variables except the elections variable.
Multicollinearity was also checked for this model without interaction, and no problems were detected. However, this does not exclude multicollinearity, which is often inevitable in models with interaction [14].
In all the marginal effects plots, the number of government parties is used without subtraction of one or three parties. Estimation results are basically the same for regression tables with variable adjustment.
As is claimed in Berry et al. [12], it is recommended to include the “inverse” version of marginal effects plots to confirm all the implications of interaction analysis, in this case, those of the impact of the number of governmental parties on government expenditure on the whole range of budgetary index. Such “inverse” diagram is omitted in this paper due to the page limit. The inverse version clearly shows that the bottom limit of the error band around the downslope line is above zero until around 0.6 of budgetary index. The author can provide the corresponding diagram on request.
Here, the interaction effect itself is not established because a straight horizontal line can be included inside the error band. Although the effect of budgetary institutions for single-party governments “may” appear weaker, we cannot clearly say, with statistical significance, that the effect of budgetary institutions “changes” depending on the number of government parties. Some discriminatory policy recommendations are only obtained in the following section by using theoretical reinterpretation and a new classification of budgetary institutions.
Originally von Hagen [40] mentioned “Time Consistency” to explain the importance of long term fiscal planning indices. Since then this argument vanished from the argument of von Hagen. We cannot use such long term fiscal planning indices as they are absent in the database of Fabrizio and Mody [22]. However, we could find elements interpretable in terms of “Time Consistency” (N1, N2, I1), among other dimensions of their database (and ours).
Dixit [18, 19] formalized this idea, based on the tradition founded by Holmstrom and Milgrom [28, 29], as follows. Given a linear reward system, which adds a bonus payment m per unit of xi (outcome of agency activity ai with normally distributed error term εi (its variance is ν, i is the number of tasks and principals, i = 1, … ,n)) to the base salary, and agent’s quadratic cost function, the variable part of reward m, summing for all the activities, is formalized as follows when there are n principals (supposed to be risk-neutral for simplicity) and k (−1 < k < 1) is designed to show substitutability (positive) or complementarity (negative) among tasks: m = 1/(1 + nrcν(1 + (n-1)k)), where c is a coefficient of cost function and r is the constant absolute risk aversion for the agent. When k is positive, the incentive m decreases dramatically with increasing n.
Hallerberg and von Hagen [25] have classified sample countries into delegation states and commitment states. For the former group detailed procedural rules are recommended. For the latter group, a fiscal planning approach based on multiparty agreement is recommended. As their dichotomy of delegation/commitment is loosely tied with single or nearly single-party government/coalition government, our conclusion and policy recommendations for budgetary reform are contrary to their argument. The main reason for Hallerberg et al. [27] to be skeptical about the effectiveness of procedural rules in coalition governments (commitment states) is that, using CPR logic, they regard such rules as being mainly related to the concentration of budgetary power in the minister of finance, who belongs to one of the coalition parties, so that other coalition partners do not desire such concentration of power. However, this schema, which is too abstract, should be avoided and procedural rules should be understood in their concrete meaning. A more precise examination of, say, parliamentary budget rules would lead to the conclusion that such rules are especially necessary for coalition governments.
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The author is profoundly grateful to the two anonymous referees who have made very constructive and encouraging remarks, which helped very much to enhance the quality of the paper. The author is also grateful for the editorial efforts of the editor in chief, which were very helpful in completing this work.
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Nakanishi, M. Budgetary institutions with or without coalition government: political economy of parliamentary democracies. IJEPS 13, 193–216 (2019). https://doi.org/10.1007/s42495-018-0007-2
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DOI: https://doi.org/10.1007/s42495-018-0007-2