Abstract
This chapter formulates a common pool model of fiscal policy-making including both countercyclical and productive spending motives to run deficits, and derives key principles for the optimal design of fiscal restraints. The model is then used to evaluate the welfare and design aspects of fiscal rules and delegation, with a view to the special cases of the recently amended Stability and Growth Pact and national fiscal councils. We find that simple numerical fiscal rules are prone to cause pro-cyclicality and to suppress productive public spending projects in the presence of a deficit bias. The amendments to the Stability and Growth Pact introduced in 2005 are helpful in this respect. National fiscal councils generally satisfy the principles for optimal deficit restraint, but neither councils nor rules are enough to ensure an optimal fiscal outcome, even if optimally conditioned on economic circumstances. Both arrangements must be combined with a budgetary institution allowing for productive public investments and spending projects to take precedence in the budget process.
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© 2009 Signe Krogstrup and Charles Wyplosz
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Krogstrup, S., Wyplosz, C. (2009). Dealing with the Deficit Bias: Principles and Policies. In: Ayuso-i-Casals, J., Deroose, S., Flores, E., Moulin, L. (eds) Policy Instruments for Sound Fiscal Policies. Finance and Capital Markets Series. Palgrave Macmillan, London. https://doi.org/10.1057/9780230271791_2
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DOI: https://doi.org/10.1057/9780230271791_2
Publisher Name: Palgrave Macmillan, London
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