Transcript SOME POSITIVE EFFECTS OF DECENTRALIZED FISCAL …

THE RECESSIVE ATTITUDE OF EMU POLICIES: REFLECTIONS ON
THE ITALIAN EXPERIENCE WITHIN THE LAST TEN YEARS
by Rosaria Rita Canale and Oreste Napolitano
Universitià di Napoli “Parthenope” Dipartimento di Studi Economici “Salvatore
Vinci”
Aim of the paper:

To show, through the measurement of the effect of public
expenditure and interest rate setting on national income
in Italy from 1998 to 2008 that,
A) government expenditure had a central role in
determining the growth rate of GDP
B) before the crisis monetary policies had real
effects, while during financial crisis it was unable to inject
money in the market

To underline the weakness and the recessive attitudes of
European policy framework both on the side of fiscal and
monetary policy
2
European economic policy framework
Theoretical foundations I
Monetary policy (NCM)
Stream of thought I:
1.time inconsistency (Kydland e Prescott 1977)
2.“only unanticipated money matters” (Lucas 1972,
Sargent and Wallace 1975)
3.destabilizing effects on expectations
Stream of thought II (NKM):
The efficacy depends on:
1.labour, credit or goods market imperfections (Blanchard
2008)
2.Unanticipated price changes (Posen 2008)
3
European economic policy framework
Theoretical foundations II
Fiscal policy




Public expenditure creates expectations of
grater future taxation and public debt (Barro
1974)
Crowding-out effect
Inflationary effect
Politicians subordinate decisions to consensus
mechanism (Buchanan and Tullok 1962, Solow
2005)
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EMU Macroeconomics fundamentals
1.
Short period policies are not desirable because of their effects on
inflation;
2.
Inflation is a monetary phenomenon;
3.
GDP and unemployment fluctuate around their long run equilibrium
level. This last one does not depend on active fiscal and monetary
policies;

These principles represent the theoretical underpinnings of
Maastricht Treaty and Stability and Growth pact, whose main
objective is the avoidance of any monetary disturbance for the
convergence toward the natural unemployment rate (Arestis and
Sawyer 2003 and Arestis, McCauley and Sawyer 2001)
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Theoretical limits of “macroeconomic consensus”
1.
2.
3.
4.
The reference interest rate is fixed by the Central Bank
(Canale et alii 2009)
Money is not neutral especially in condition of
unemployment
A behavioural equation rather than an identity
describes the process of GDP formation (see Krugman
2009 vs Cochrane 2009 and Fama 2009)
Wealth effect on public debt
6
Empirical evidence does not give unequivocal results
Monetary policy:
Effects on income and prices in imperfect markets. Cochrane (1998) Clarida, Gali and
Gertler (1999 and 2000) and Galì and Gertler (2007)
The CB cannot fix negative interest rates so that it is not always possible to make
output to converge just taking after inflation. Benhabib, Schmitt-Grohé e Uribe (1999)
Fiscal Policy:
 Problems of variables identifications (Perotti 2007) Blanchard and Perotti (2002)
The multiplyer is positive. Mihov (2001) Monacelli and Gali (2005) Fatas and Mihov
(2009) Alesina, Campante and Tabellini (2007)
Ricardian equivalence is not univocally demonstrated Hemming, Kell e Mahfouz,
(2002)
The policy efficacy depends on the joint action of monetary and fiscal policy
See Canale (2009) and Canale et al (2008) vs Giavazzi and Pagano (1990) etc
Consolidated empirical literature uses VAR technique to evaluates the response
to shocks of e.g. aggregate equilibrium income, and therefore assumes that an
equilibrium value already exists;
We use OLS technique to capture the measure of contribution to income of the
independent variables
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Macroeconomic performance of fiscal and monetary policy in Italy from 1992 to 1998
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gdpgrow th
inflazione
dep_rate
Deficit
Economic policies with the aim of joining the EMU
• Interest and inflation rates convergence
• Public deficit reduction strategy
• No great effects on GDP growth (0,6%)
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Macroeconomic performance of fiscal and monetary policy in Italy 1999-2008
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gdpgrowth
inflazione
dep_rate
Deficit/GDP
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The 1999-2001 period: growth and improvements of
public accounts
the 2001-2008 period: a slow down of growth and
progressive deterioration of public accounts
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Empirical analysis I: the model
We use a model according to which equilibrium income is determined by its
components not simultaneously.
Therefore it assumes the following form:
Yt  f (Zt i )
(1)
Where (t-i) is the index of lagged variables influencing GDP
The equation (1) can be re-written as:
Yt  0  1z1,t i  2 z2,t i  3 z3,t i  .......  n zn,t i (2)
In order to examine the influence on income of fiscal and monetary policy and
avoid problems of autocorrelations we estimate one variable at a time: :
Y
1  t
z1,t i
or
Yt
2 
z2,t i
or …………….
n 
Yt
zn,t i
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Empirical analysis I – results
The first estimate represents the effects of public expenditure (Tex) on GDP
(Table 2) .
Empirics shows that public expenditure had a positive correlation with nominal
GDP from 1998 to 2008

Table 2. Public expenditure effects on nominal GDP
Dependent Variable: GDP1 (nominal index of GDP)
Variable
Coefficient
t-statistic
C
76.18828***
7.038606
Tex(-1)
0.491754***
5.899669
R2 0.484723
Obs.: 39, Sample (adjusted): 1999:02; 2008:4
D-W stat: 1.400407; AIC 7.566932; F-stat 34.80610***
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Empirical analysis I –results
The second estimate shows the effects of public expenditure (Tex) on real
GDP (table 3).
Empirics shows that from 1998 to 2008 public expenditure had a positive
correlation with real GDP

Table 3. Public expenditure effects on real GDP
Dependent Variable: GDP2 (real index of GDP)
Variable
Coefficient
t-statistic
C
106.0451***
28.53820
Tex(-1)
0.163956***
5.729890
R2 0.470514
Obs.: 39, Sample (adjusted): 1999:02; 2008:4
D-W stat: 1.3988210; AIC 5.428578; F stat 32.83164***
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Empirical analysis I – results

Results do not have a great change if we consider jointly the effects of total expenses
(Tex) and total revenues (rev) on GDP
Tables 4 describes the regression results both on nominal GDP index
Table 4. Joint effects of public expenditure ant revenues on nominal GDP
Dependent Variable: GDP1 (nominal index of GDP)
Variable
Coefficient
t-statistic
C
71.36942***
6.310181
Tex(-1)
0.321952***
3.514355
Rev(-3)
0.198156***
2.704307
R2 00.530097.797115; Adjusted R2 0.502455
Obs.: 37; Sample (adjusted): 1999:04; 2008:4
D-W stat: 1.969720; AIC 7.400598; F stat 19.17764***
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Empirical analysis I – results

Tables 5 describes the regression results taking into account the
real GDP index
Table 5. Joint effects of expenditure and revenues on real GDP
Dependent Variable: GDP2 (real index of GDP)
Variable
Coefficient
t-statistic
C
105.6890 ***
27.75564
Tex(-1)
0.104996 ***
3.404221
Rev(-3)
0.059835 ***
2.425457
R2 0.498782
Adjusted R2 0.469298
Obs.: 36; Sample (adjusted): 2000:01; 2008:4
D-W stat 1.835883; AIC 5.223311; F stat 616.91736***
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Empirical analysis I – results

Table 6 describes the real effects of repurchase rate setting. As we can see the
coefficient is negative and significant.
Table 6. Real effect of monetary policy strategy I
Dependent Variable: GDP2 (real index of GDP)
Variable
Coefficient
t-statistic
C
10.62128***
3.430827
GDP2(-1)
0.924243***
38.34049
Rep_rate(-2)
-0.317137**
-2.338799
R2 0.977134; Adjusted R2 0.975827
Obs.: 38; Sample (adjusted): 1999:03 2008:4
D-W stat 1.936779; AIC 2.234471; F stat 747.8319***
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Empirical analysis I – results
 Results
do not change if we consider the EONIA rate instead of repurchase
rate, because of the direct proportionality between the two rates
Table 7. Real effect of monetary policy strategy II
Dependent Variable: GDP2 (real index of GDP)
Variable
Coefficient
t-statistic
C
10.89945***
3.492447
GDP2(-1)
0.924399***
38.31560
Eonia(-2)
-0.303109**
-2.321781
R2 0.977089; Adjusted R2 0.975780
Obs.: 38; Sample (adjusted): 1999:03 2008:4
D-W stat 1.957125; AIC 2.236432; F stat 746.3319***
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Empirical analysis I – results
Interesting results come out of the empirical analysis of the relation
between debt and GDP. Coefficient is positive and significant
Table 8. Real effects of public debt
Dependent Variable: GDP2 (real index of GDP)
Variable
Coefficient
t-statistic
C
19.96988***
7.230646
GDP2(-1)
0.772619***
17.88903
Debt(-1)
0.078703***
2.755561
R2 0.9839600; Adjusted R20.983158
Obs.: 43; Sample (adjusted): 1998:02 2008:4
D-W stat 1.634168; AIC 2.482092; F stat 1226.903***
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Comments on results



The positive relation between government expenditure
and GDP shows that in the years from 1998 to 2008
fiscal policy in Italy influenced growth both in nominal
and real terms (Tables 2, 3, 4, 5)
The negative relation between the repurchase rate (or
EONIA) and real income brings us to conclude that,
because of the direct proportionality with all other rates
in the market, monetary policy had in the years
considered a negative effect on GDP (Tables 6 and 7)
Despite mainstream literature assertions about the
Ricardian equivalence and the negative effects of public
debt, empirical evidence shows that public debt had
same sign effects on real GDP (table 8).
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Empirical Analysis II – The Kalman filter
We use the Kalman filter methodology to evaluate
how the coefficients of the main variables
influencing GDP have been varying through time.
Assuming that βi,t was determined by an
autoregressive process AR(n), we use the
following model with changing parameters :
y t =β 0,t +β1,t Z t +μ t
yt is the GDP, μit is a identified by a “white
noise” process, and the vector of coefficients βi,t is
“random walk”.
Where
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
Empirical Analysis II – The Kalman filter results

Results are presented in table 9 and in figures 5 and 6.
Coefficients have a sign consistent with the OLS regression and are
significant. The path of coefficient βi,t (figures 5 and 6) appear to add
interesting results about dynamic effects of monetary and fiscal policies in that
period.

Table 9. The Kalman estimations
(rep_rate)
AIC=7.03
Schwarz=7.07
Obs. 38(Q)
1,t
2,t
127.03**
(76.59)
[ 0.000]
-0.2865**
(-11.29)
[ 0.003]
73.81**
(6.687 )
[ 0.000]
0.50111**
(6.054)
[ 0.000]
(Govern. Expenditure)
AIC=8.61
Schwarz=8.65
Obs. 39 (Q)
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The Kalman filter and monetary policy



It is interesting to note that the coefficient of the discount rate changed few
years after the EURO (figure 5)
The second relevant change in the discount rate coefficient occurs around
the year 2006. Figure 5 shows that in that period there is an inversion of the
path. The opposite effect of interest rates movements on GDP reduces and,
at a time of financial crises, it approximates to zero.
Around the year 2008 happened a kind of liquidity trap, testifying the fact
that the interest rate lowering policy was not able to inject money in the
market during the crisis
Figure 5. Monetary policy coefficient behaviour
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The Kalman filter and fiscal policy
On contrary public expenditure coefficient is always
positive testifying the fact that government expenditure had
a great part in determining the GDP in those years.
The coefficient of the public expenditure is positive and
ever increasing till the end of the period
Figure 6. Fiscal policy coefficient behaviour
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Conclusions

In Italy in the period from 1998 to 2008
1)
Public expenditure had same sign effects on GDP
Debt did not have negative effects
Monetary policy had real effects
The effects of fiscal policy have been growing through time
Monetary policy reduced its influence on GDP during the crisis
2)
3)
4)
5)
Generalizing the Italian results:
 Because of the lack of a shared fiscal policy and of an inflation
targeting monetary policy strategy, the economic policy structure in
EMU:
A)
Is unable to contrast current economic crisis
B)
Hardly weakens the existence of the monetary union as a whole
(Krugman, 2009, Wray 2003)
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