Fiscal Policy in Real Time

JEL codes: 
C23, E30, E62, H30, H60
Series number: 
European C
Version Date: 
May 2008

This paper argues that any assessment on the intentional stance of fiscal policy should be
based upon all the information available to policymakers at the time of fiscal planning. In
particular, real-time data on the discretionary fiscal policy "instrument", the structural
primary balance, should be used in the estimation of fiscal policy reaction functions. In
fact, the ex-post realization of discretionary fiscal measures may end up to be drastically
different from what was planned by fiscal authorities in the budget law. When fiscal
policy rules are estimated on real-time data, our results indicate that OECD countries
often planned a counter-cyclical fiscal stance, especially during economic expansions,
whereas conventional findings based on revised data point towards pro-cyclicality. This
finding calls into question the effectiveness of discretionary fiscal policies to fine tune the
business cycle, as (pro-cyclical) actual outcomes tend to deviate from (counter-cyclical)
fiscal plans. Furthermore, we test whether threshold effects might be at play in the
reaction of fiscal policy to the economic cycle and to public debt accumulation. It
emerges that the intended cyclical behavior of fiscal policy is characterized by two
regimes, and that the switch between them is likely to occur when output is close to its
equilibrium level. On the other hand, the use of revised data does not allow to identify
any threshold effect.

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