Fiscal Policy Councils: Unlovable or Just Unloved?

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Fiscal Policy CouncilsUnlovable or Just Unloved?

• Charles Wyplosz
• Graduate Institute of International Economics and
  CEPR
• Conference on Fiscal Rules and Institutions
• Ecnomic Council of Sweden, October 22, 2007

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The problem
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Not universal or not permanent
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Not new
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Why?

• Common pool interpretation
• Grab for resources
• Captured governments
• Time inconsistency
• Political expediency
• Future taxpayers dont vote
• Discretion is the problem

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Rule it out?

• Numerous proposals
• Balanced-budget rule
• Golden rule
• Stability pact and other ceilings
• A rule is bound to be counter-productive one day
• Fiscal policy is also a counter-cyclical policy
  instrument

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Rationale for FPCs

• The monetary policy solution
• Long-term goal, short-run flexibility

Inflation targeting
Price stability
Taylor rule
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Rationale for FCPs

• The fiscal policy council solution
• Long-term goal, short-run flexibility

Inflation targeting
Debt targeting
Price stability
Taylor rule
Debt sustainability
Annual deficits
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Implementation

• An independent body
• A clear mandate
• Long-term debt
• Set by the elected government at the beginning of
  its legislature
• An instrument
• The path of budget balances Nothing else
• Annual decisions take into account situation
• End-of-period objective is binding

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Soft variant

• Advisory role
• FPC makes recommendations, government decides
• FPC then evaluates outcomes
• Effectiveness rests on public debate
• FPC as pro-discipline pressure group
• Can work if other pressure groups not too
  powerful
• Examples
• Belgium, Denmark, Chile, and now Sweden

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Soft variant

• Advisory role
• FPC makes recommendations, government decides
• FPC then evaluates outcomes
• Effectiveness rests on public debate
• FPC as pro-discipline pressure group
• Can work if other pressure groups not too
  powerful
• Examples
• Belgium, Denmark, Chile, and now Sweden

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Soft variant

• Advisory role
• FPC makes recommendations, government decides
• FPC then evaluates outcomes
• Effectiveness rests on public debate
• FPC as pro-discipline pressure group
• Can work if other pressure groups not too
  powerful
• Examples
• Belgium, Denmark, Chile, and now Sweden

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Hard variant

• Decision power on budget balances
• Government and parliament bound to adopt budget
  in line with Councils decision
• Council does not express view on spending and tax
  levels and structure
• FPC accountable ex-post
• Unclear sanctions (cf central banks)
• Examples none

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Other arrangements

• Expert judgment not incorporated in decision
  process
• Germany (Council of Academic Experts)
• USA (CBO)
• Japan (Fiscal System Council)
• Netherlands (CPB)
• Korea (c.f. CBO)
• Mexico (c.f. CBO)
• and more

() Source IMF
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Other arrangements
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Why so unloved?

• Fiscal policy is a political prerogative of
  elected officials
• Microeconomic effects important redistributive
  effects
• Macroeconomic effects
• Not more redistributive than monetary policy
• Intergenerational redistribution problematic
• Bureaucrats cannot be made accountable
• Same as independent central banks

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Why so unloved?

• Principle hard to implement
• How to avoid ex post slippages?
• Will lead to tougher decisions
• Sets incentives straight
• Debt objective can be too ambitious
• Trade-off between being too modest ex ante and
  too restrictive ex post
• Sets incentives straight
• Risk of backsliding
• FPC can be disbanded
• Sets incentives straight

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Why so unloved?

• Misunderstanding
• Difference between micro and macro effects
• Micro-level flexibility under threat
• Well understood but pressure groups too powerful
• An argument for the Stability Pact
• But also an argument for a modified pact
• Decentralize the pact
• Rely on country-level FPCs

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Can it be lovable?

• Strong logic
• Delegation as a solution to time inconsistency
  and pressure groups
• Deals with political failure
• Second-best features
• But lack of sufficient experimentation
• Now under way