The social impact of fiscal policy responses to crises
Carlos A. Vegh , Guillermo Vuletin 12 June 2014
The question of whether fiscal policy should be pro- or countercyclical has become increasingly relevant during the recession. This column provides causal evidence from South American countries showing the success of countercyclical policy in improving social indicators of economic success, combined with correlative evidence from Europe. This represents a strike against the case for austerity-led growth.
Fiscal policy in many developing countries is typically procyclical. Expansionary in good times and contractionary in bad times, these policies often amplify business cycles. The most convincing explanations for such practices seem to be limited access to international credit markets during bad times and political pressures that tend to encourage too much public spending during boom periods (Calderon and Schmidt-Hebbel 2008). Whatever the reason, the pattern is well documented (see Frankel, Vegh, and Vuletin 2011 on the spending side and Vegh and Vuletin 2013a on the tax side).
fiscal policy, business cycle, austerity, cyclicality, LAC-7
Carlos A. Vegh , Guillermo Vuletin 01 October 2013
Government spending is procyclical in developing countries, exacerbating the business cycle. However, an analysis of tax policy is also required in order to properly assess the overall stance of fiscal policy. This column presents recent research showing that tax policy tends to be procyclical in developing countries and acyclical in developed countries. Although some developing countries have managed to escape the procyclical fiscal policy trap, some developed nations – notably Eurozone members – are falling into it.
It is well-established that government spending in developing countries has often been procyclical. In other words, government spending has increased in good times and contracted in bad times, thus exacerbating the underlying business cycle. The inability to save in good times to build a war chest for bad times has often led to wrenching financial and sovereign-debt crises.
Macroeconomic policy Taxation
tax, developing countries, business cycles, fiscal policy, austerity, cyclicality