## _wp06116 - 3. Percentage of Positive Forecast Errors for Overall Balance, 1999–2004

## Source details

**Canonical URL:** [_wp06116 - 3. Percentage of Positive Forecast Errors for Overall Balance, 1999–2004](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2006/_wp06116.pdf)

## Other formats

- [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2006/_wp06116.pdf.md)
- [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2006/_wp06116.pdf.json)

---

### I. Introduction
- The Stability and Growth Pact (SGP) operationalizes fiscal provisions from the Maastricht treaty (adopted in 1992) through a preventive arm and a dissuasive arm.
- Preventive arm:
  - Complements the 3 percent of GDP deficit limit by requiring countries to strive for a medium-term objective (MTO).
  - Original interpretation: “close-to-balance or in surplus” → deficit no larger than ½ percent of GDP over the cycle.
  - 2005 revision: countries may set own MTOs based on sustainability, within limits (including a maximum 1 percent of GDP deficit).
  - Countries not at MTO should target adjustment of ½ percent of GDP a year, net of one-offs and other temporary measures.
  - Temporary deviation allowed for structural reforms; countries submit annual Stability Programs; ECOFIN may issue early warnings.
- Dissuasive arm (Excessive Deficit Procedure, EDP):
  - Enforces 3 percent of GDP deficit and 60 percent of GDP debt limits.
  - Noncompliance triggers corrective policies, escalating surveillance, and potential financial penalties.
  - Original SGP aimed for sanctions within 10 months; 2005 reforms increased procedural flexibility (looser escape clauses, lengthened deadlines, expanded circumstances for longer adjustment).
- Persistent critique: enforcement has been the Achilles’ heel of the SGP, despite other desirable rule characteristics (well-defined, transparent, simple, flexible, adequate, consistent, underpinned by structural reforms).

### II. The Political Economy of Fiscal Frameworks
- Political drivers of deficit bias:
  - Common pool model: politicians representing diverse groups have weak incentives to constrain spending; externality can produce excess spending and deficit bias (Velasco, 1999).
  - Myopia and electoral motives: politicians may favor short-term gains (pre-election loosening) and discount long-term debt burdens; voters may not fully grasp intertemporal budget constraints.
  - Monetary union effects: absence of exchange rate/interest rate premium reduces disciplining mechanisms; area-wide capital markets and potential bailouts can exacerbate deficit bias.
- Institutional remedies:
  - Formal fiscal rules (e.g., SGP) and national rules (expenditure ceilings, rainy day funds, internal stability pacts).
  - Institutional reforms: delegation (strong finance minister role) vs. commitment (fiscal contracts with strict targets) vs. mixed systems.
  - Independent fiscal watchdogs:
    - Independent macroeconomic and fiscal projections (examples: Austria, Belgium, Netherlands).
    - Normative assessments by independent bodies (Belgium’s High Council of Finance; Denmark’s Economic Council) can increase reputational costs and aid turnaround.
- Complementarity observed:
  - Netherlands: medium-term expenditure framework (1994) + Central Planning Bureau independent forecasts.
  - Belgium: commitment governance + strengthened High Council of Finance + independent forecasts.

### III. Developments Under the Fiscal Framework (1980–2004 overview)
- Pre-Maastricht (1980s–early 1990s): many EU countries ran persistent unsustainable deficits; some debts rose above 100 percent of GDP (Belgium, Greece, Ireland, Italy).
- Maastricht era (1992–98) vs. earlier period (1980–91):
  - Average improvement in cyclically adjusted primary balance: almost 3 percent of GDP among euro-area countries (excluding Luxembourg), 2 percent of GDP including non-euro EU15 members.
  - By EMU onset in 1999, almost all present euro area members had deficits below 3 percent of GDP.
- SGP period (1999–04) findings:
  - Average overall balance among euro area countries improved, but cyclically-adjusted primary balance did not materially improve compared with Maastricht period (deteriorated in half the countries).
  - Only three countries had adjustment in SGP period that exceeded Maastricht adjustments.
  - By end-2004, half the euro-area countries were “close-to-balance or in surplus” (minimum ½ percent cyclically adjusted deficit): Belgium, Finland, Ireland, Netherlands, Spain (and Denmark and Sweden outside euro area).
  - Countries far from MTO by 2004 included France, Germany, Greece, Italy, Portugal — these five posted deficits in excess of 3 percent and entered EDP.
- Divergence by country size:
  - A gulf opened up between large (Germany, France, Italy) and smaller euro-area countries (Figure 2): large countries performed worse under the SGP.
- Procyclicality:
  - Evidence mixed: some studies find muted procyclicality after Maastricht and under SGP (structural fiscal balance more stable), others find increased procyclicality after the euro as countries loosened in good times.
- Selected country entries from Table 2 (preserved exactly as in source):
  - Austria overall balance: -3.0 (1980-1991), -3.6 (1992-1998), -1.1 (1999-04); gross debt: 50.2, 63.3, 65.5.
  - Belgium overall balance: -10.1, -4.5, 0.1; gross debt: 117.3, 130.7, 105.5.
  - Average EU-11 overall balance: -5.3, -4.4, -1.0; gross debt: 57.6, 77.5, 69.5.
- Fiscal adjustment during business-cycle phases (Table 3: change in cyclically adjusted primary balance):
  - Examples: Finland 3.2 (good), -4.9 (bad), -1.7 (overall); Greece -2.9, -4.6, -7.6; Average EU-11 -0.4 (good), -1.1 (bad), -1.5 (overall); Average EU-14 -0.2, -1.4, -1.7.
- Key problems identified under SGP:
  - Overly optimistic macro assumptions reducing pressure for medium-term adjustment (Jonung and Larch, 2004; Strauch, Hallerberg, and von Hagen, 2004).
  - One-offs, creative accounting, misreporting (examples: Greece, Portugal).
  - Election-driven loosening of fiscal policy (Buti and van den Noord, 2004).

### IV. Explaining Divergent Country Experiences: Empirical Results
- Hypotheses for SGP effectiveness variation:
  - Suitability to small countries (political/reputational and economic multiplier arguments).
  - External anchor for volatile countries (rules provide credibility).
  - Fit with commitment governance (SGP’s numerical, multi-annual targets complement commitment-based domestic institutions).
- Fiscal reaction function estimated (dependent variable BAL = cyclically-adjusted primary balance). Regressors include:
  - lagged dependent variable; gross public debt ratio (DEBT); output gap (GAP); election year dummy (ELEC); commitment/mixed dummy (COM); delegation dummy (DEL); relative economic size (SIZE = ratio of real GDP to EU real GDP); economic volatility (VOL = sd of real growth over prior 10 years); country fixed effects α_i.
- Estimation details:
  - Panel data 1980-2004 for all EU members except Luxembourg.
  - EU14 and EU11 regressions; 2SLS to address endogeneity using lagged output gaps as instruments.
  - Fixed effects and pooled OLS employed; robust standard errors reported.
- Baseline results (highlights from Table 4):
  - Lagged CAPB significant and persistent: coefficients ~0.71–0.75 (*** significance).
  - Output gap negative and significant (procyclicality) for euro area in some specs (e.g., -0.06*).
  - Lagged debt positive and significant: coefficient 0.01***–0.03***.
  - Election year dummy negative and highly significant: -0.63*** to -0.66*** (electoral loosening).
  - Commitment dummy positive and significant in several specifications: e.g., 0.69***, 0.64***, 0.55**.
  - Delegation not significant overall.
  - R2 around 0.78–0.80; N = 346 (EU-14) and 272 (EU-11) depending on specification.
- Pre- vs. post-Maastricht (Table 5):
  - Fiscal policy procyclical pre-Maastricht; essentially acyclical post-Maastricht for euro area.
  - Electoral distortion reduced post-Maastricht (post coefficient ~40% of pre).
  - Commitment and delegation contributed to better outcomes before Maastricht in pooled OLS, but little evidence post-Maastricht.
- Pre- vs. post-SGP (Table 6):
  - Commitment coefficients generally higher in post-SGP period (e.g., pooled OLS post-SGP 0.72**, 1.04**).
  - Delegation beneficial pre-SGP but not post-SGP in some specifications.
  - Growth volatility associated with more discipline post-SGP in pooled OLS (post-SGP 0.32**, 0.35**).
  - Fiscal policy more procyclical post-SGP (output gap coefficients larger in magnitude post-SGP, though not always significant).
  - Election-year deficit bias persists in both periods but is smaller post-SGP (e.g., pre-SGP -0.67***; post-SGP -0.49**).

### V. Forecasting Under Stability Programs and Empirical Findings on Forecast Errors
- Forecast errors defined as fiscal balance minus projected fiscal balance from Stability Programs.
- Forecast-error regression for one- and two-year horizons for EU12 under SGP (1999-04) included regressors: output gap, Good times dummy (1999-2000), commitment dummy, delegation dummy, growth volatility, relative economic size, independent forecasts dummy (IFA for Austria, Belgium, Netherlands).
- Key empirical results (Table 7; dependent = forecast error of overall balance):
  - One-year ahead (pooled OLS):
    - Output gap: -0.18* (0.11)
    - Good times (1999-2000): 1.49*** (0.37)
    - Commitment: 1.04** (0.46)
    - Growth volatility: 0.26 (0.22)
    - Relative economic size: 0.04* (0.02)
    - Independent forecasts: 0.80* (0.48)
    - R2 = 0.40; N = 65; method pooled OLS.
  - One-year ahead (fixed effects):
    - Output gap: -0.25** (0.10)
    - Good times: 2.13*** (0.40)
    - Commitment: 0.42 (1.55)
    - Growth volatility: -0.22 (0.25)
    - Relative economic size: 1.33 (1.08)
    - Independent forecasts: omitted in this column.
    - R2 = 0.59; N = 65; fixed effects.
  - Two-year ahead (pooled OLS):
    - Good times: 1.99*** (0.72)
    - Commitment: 1.32* (0.73)
    - Growth volatility: 1.00*** (0.32)
    - Independent forecasts: 1.42** (0.74)
    - R2 = 0.44; N = 55; pooled OLS.
  - Two-year ahead (fixed effects): Good times and some coefficients significant; N = 54; R2 = 0.62.
- Interpretations:
  - Output gap negative and significant for one-year-ahead forecasts (optimistic forecasting in good times; more cautious in bad times).
  - Good times dummy (1999-2000) strongly positive and significant for forecast errors.
  - Commitment countries show more positive (or less negative) forecast errors → evidence of more cautious forecasting.
  - Independent forecasting agencies associated with lower forecast errors (supports Jonung and Larch, 2004).
  - Growth volatility linked to more conservative forecasting (significant for two-year ahead in pooled OLS).
  - Relative economic size largely insignificant except some pooled OLS coefficients.
- Frequency of positive forecast errors:
  - Figure 3 shows higher frequency of positive surprises among commitment countries compared with delegation countries during 1999–2004.
  - During downturn years, positive surprises were rare among delegation countries but more common among commitment countries.

### VI. Conclusion and Policy Implications
- Findings:
  - Rules-based frameworks can be effective in combating politically-motivated fiscal distortions; Maastricht led to substantial adjustment.
  - SGP contributed to fiscal discipline in Austria, Belgium, Finland, Ireland, Netherlands, Spain (and Denmark and Sweden outside euro area).
  - Empirical evidence indicates diminished electoral motive for fiscal loosening under rules-based frameworks.
- Why SGP worked for some countries:
  - Commitment countries: greater domestic political costs for violating fiscal contracts → stronger self-enforcement.
  - Volatile countries: value external anchor; more likely to accept SGP constraints.
  - Small countries: more amenable to external peer pressure and potential reputational costs.
- Projections for newer EU members:
  - Many new and acceding members have higher-than-average deficits (Table 8).
  - Stylized facts for new/acceding members (preserved exactly as in source):
    - Bulgaria: Average fiscal balance 0.5; Commitment (from 1998); Relative economic size 0.13; Economic volatility 5.4.
    - Czech Republic: Average fiscal balance -6.2; Commitment (from 1994); Relative economic size 0.59; Economic volatility 2.1.
    - Hungary: Average fiscal balance -5.2; Delegation (from 2002); Relative economic size 0.55; Economic volatility 1.2.
    - Poland: Average fiscal balance -3.5; Commitment (from 1999); Relative economic size 1.72; Economic volatility 1.9.
    - Average (new/acc.): -3.3 average fiscal balance; relative economic size 0.35; economic volatility 2.6.
    - Average EU-14: -0.6 average fiscal balance; relative economic size 6.93; economic volatility 1.3.
    - Average EU-11: -1.1 average fiscal balance; relative economic size 7.18; economic volatility 1.3.
    - Average EU-8 (excluding France, Germany, Italy): -0.5 average fiscal balance; relative economic size 2.88; economic volatility 1.5.
- Policy implications and reform directions:
  - Increase enforceability in non-complying countries without undermining SGP’s disciplining effect elsewhere.
  - Balance legitimacy and flexibility: enforceability requires legitimacy; excessive flexibility risks weakening external anchor.
  - Avoid lax application for large countries to prevent negative demonstration effects and erosion of discipline among newer members.
  - Encourage domestic institutional reforms to foster “bottom-up” peer pressure and national ownership, especially in large/delegation countries:
    - Use of independent macro and fiscal forecasting agencies to improve forecast accuracy and reduce optimistic biases.
    - Strengthen domestic commitment mechanisms where appropriate; for delegation countries, bolster domestic institutions and independent assessments.
  - Tailor reforms to country circumstances: commitment technologies, independent forecasts, and multi-annual frameworks can enhance compliance and self-enforcement.

*Source: Stability Programs and IMF staff estimates; content unit: _wp06116 - 3. Percentage of Positive Forecast Errors for Overall Balance, 1999–2004 (pages 3–28 of the supplied PDF).*

### References..............................................................................................................

### _wp06116 - References..............................................................................................................

### Tables
- 1. Fiscal Governance in the European Union, 1981–2004 ........................................................6
- 2. Fiscal Developments in the European Union, 1980–2004...................................................12
- 3. Fiscal Adjustment under the SGP ........................................................................................13
- 4. Fiscal Policy Determination in the European Union, 1980–2004 .......................................18
- 5. Fiscal Policy Behavior in Europe Before and After Maastricht ..........................................20
- 6. Fiscal Policy Behavior in Europe Before and After SGP ....................................................21
- 7. Forecast Errors Under Stability Programs, 1999–2004 .......................................................24
- 8. New and Acceding EU Members: Some Stylized Facts......................................................27

### Figures
- 1. Overall and Structural Balance in the Euro Area, 2004.......................................................10
- 2. Structural Balance in Large versus Small Countries in the Euro Area, 1999–2004............11

*Source: _wp06116 - References..............................................................................................................*

### 3. Percentage of Positive Forecast Errors for Overall Balance, 1999–2004............................25

### _wp06116 - 3. Percentage of Positive Forecast Errors for Overall Balance, 1999–2004............................25

### I. INTRODUCTION
- The Stability and Growth Pact (SGP) operationalizes fiscal provisions from the Maastricht treaty (adopted in 1992) through a preventive arm and a dissuasive arm.
- Preventive arm:
  - Complements the 3 percent of GDP deficit limit by requiring countries to strive for a medium-term objective (MTO).
  - Original interpretation: “close-to-balance or in surplus” → deficit no larger than ½ percent of GDP over the cycle.
  - 2005 revision: countries may set own MTOs based on sustainability, within limits (including a maximum 1 percent of GDP deficit).
  - Countries not at MTO should target adjustment of ½ percent of GDP a year, net of one-offs and other temporary measures.
  - Temporary deviation allowed for structural reforms; countries submit annual Stability Programs; ECOFIN may issue early warnings.
- Dissuasive arm (Excessive Deficit Procedure, EDP):
  - Enforces 3 percent of GDP deficit and 60 percent of GDP debt limits.
  - Noncompliance triggers corrective policies, escalating surveillance, and potential financial penalties.
  - Original SGP aimed for sanctions within 10 months; 2005 reforms increased procedural flexibility (looser escape clauses, lengthened deadlines, expanded circumstances for longer adjustment).
- Persistent critique: enforcement has been the Achilles’ heel of the SGP, despite other desirable rule characteristics (well-defined, transparent, simple, flexible, adequate, consistent, underpinned by structural reforms).

### II. The Political Economy of Fiscal Frameworks
- Political drivers of deficit bias:
  - Common pool model: politicians representing diverse groups have weak incentives to constrain spending; externality can produce excess spending and deficit bias (Velasco, 1999).
  - Myopia and electoral motives: politicians may favor short-term gains (pre-election loosening) and discount long-term debt burdens; voters may not fully grasp intertemporal budget constraints.
  - Monetary union effects: absence of exchange rate/interest rate premium reduces disciplining mechanisms; area-wide capital markets and potential bailouts can exacerbate deficit bias.
- Institutional remedies:
  - Formal fiscal rules (e.g., SGP) and national rules (expenditure ceilings, rainy day funds, internal stability pacts).
  - Institutional reforms: delegation (strong finance minister role) vs. commitment (fiscal contracts with strict targets) vs. mixed systems.
  - Independent fiscal watchdogs:
    - Independent macroeconomic and fiscal projections (examples: Austria, Belgium, Netherlands).
    - Normative assessments by independent bodies (Belgium’s High Council of Finance; Denmark’s Economic Council) can increase reputational costs and aid turnaround.
- Complementarity observed:
  - Netherlands: medium-term expenditure framework (1994) + Central Planning Bureau independent forecasts.
  - Belgium: commitment governance + strengthened High Council of Finance + independent forecasts.

### III. Developments Under the Fiscal Framework (1980–2004 overview)
- Pre-Maastricht (1980s–early 1990s): many EU countries ran persistent unsustainable deficits; some debts rose above 100 percent of GDP (Belgium, Greece, Ireland, Italy).
- Maastricht era (1992–98) vs. earlier period (1980–91):
  - Average improvement in cyclically adjusted primary balance: almost 3 percent of GDP among euro-area countries (excluding Luxembourg), 2 percent of GDP including non-euro EU15 members.
  - By EMU onset in 1999, almost all present euro area members had deficits below 3 percent of GDP.
- SGP period (1999–04) findings:
  - Average overall balance among euro area countries improved, but cyclically-adjusted primary balance did not materially improve compared with Maastricht period (deteriorated in half the countries).
  - Only three countries had adjustment in SGP period that exceeded Maastricht adjustments.
  - By end-2004, half the euro-area countries were “close-to-balance or in surplus” (minimum ½ percent cyclically adjusted deficit): Belgium, Finland, Ireland, Netherlands, Spain (and Denmark and Sweden outside euro area).
  - Countries far from MTO by 2004 included France, Germany, Greece, Italy, Portugal — these five posted deficits in excess of 3 percent and entered EDP.
- Divergence by country size:
  - A gulf opened up between large (Germany, France, Italy) and smaller euro-area countries (Figure 2): large countries performed worse under the SGP.
- Procyclicality:
  - Evidence mixed: some studies find muted procyclicality after Maastricht and under SGP (structural fiscal balance more stable), others find increased procyclicality after the euro as countries loosened in good times.
- Table 2 highlights country-level fiscal developments (1980-1991; 1992-1998; 1999-04) for overall balance, cyclically adjusted balance, cyclically adjusted primary balance, and gross debt (source: OECD). Examples of entries (preserved exactly as in source):
  - Austria overall balance: -3.0 (1980-1991), -3.6 (1992-1998), -1.1 (1999-04); gross debt: 50.2, 63.3, 65.5.
  - Belgium overall balance: -10.1, -4.5, 0.1; gross debt: 117.3, 130.7, 105.5.
  - Average EU-11 overall balance: -5.3, -4.4, -1.0; gross debt: 57.6, 77.5, 69.5.
- Fiscal adjustment during business-cycle phases (Table 3: change in cyclically adjusted primary balance):
  - Good times (1999-00) vs. Bad times (2001-04) vs. Overall (1999-04).
  - Examples: Finland 3.2 (good), -4.9 (bad), -1.7 (overall); Greece -2.9, -4.6, -7.6; Average EU-11 -0.4 (good), -1.1 (bad), -1.5 (overall); Average EU-14 -0.2, -1.4, -1.7.

Key problems identified under SGP:
- Overly optimistic macro assumptions reducing pressure for medium-term adjustment (Jonung and Larch, 2004; Strauch, Hallerberg, and von Hagen, 2004).
- One-offs, creative accounting, misreporting (examples: Greece, Portugal).
- Election-driven loosening of fiscal policy (Buti and van den Noord, 2004).

### IV. Explaining Divergent Country Experiences: Empirical Results
- Hypotheses for SGP effectiveness variation:
  - Suitability to small countries (political/reputational and economic multiplier arguments).
  - External anchor for volatile countries (rules provide credibility).
  - Fit with commitment governance (SGP’s numerical, multi-annual targets complement commitment-based domestic institutions).
- Fiscal reaction function estimated (dependent variable BAL = cyclically-adjusted primary balance). Estimated equation (symbols preserved as in source):
  - tititi
    titititititi
    VOLSIZE
    DELCOMELECGAPDEBTBALBAL
    ,,8,7
    ,6,5,4,31,21,1,
    εββ
    ββββββα
    +++
    +
    ++++++=
    −−
  - Regressors: lagged dependent variable; gross public debt ratio (DEBT); output gap (GAP); election year dummy (ELEC); commitment/mixed dummy (COM); delegation dummy (DEL); relative economic size (SIZE = ratio of real GDP to EU real GDP); economic volatility (VOL = sd of real growth over prior 10 years); country fixed effects α_i.
- Estimation details:
  - Panel data 1980-2004 for all EU members except Luxembourg.
  - EU14 and EU11 regressions; 2SLS to address endogeneity using lagged output gaps as instruments.
  - Fixed effects and pooled OLS employed; robust standard errors reported.
- Baseline results (Table 4 highlights):
  - Lagged CAPB significant and persistent: coefficients ~0.71–0.75 (*** significance).
  - Output gap negative and significant (procyclicality) for euro area in some specs (e.g., -0.06*).
  - Lagged debt positive and significant (policymakers tighten when debt high): coefficient 0.01***–0.03***.
  - Election year dummy negative and highly significant: -0.63*** to -0.66*** (electoral loosening).
  - Commitment dummy positive and significant in several specifications: e.g., 0.69***, 0.64***, 0.55** (suggesting commitment > fiefdom); delegation not significant overall.
  - R2 around 0.78–0.80; N = 346 (EU-14) and 272 (EU-11) depending on specification.
- Pre- vs. post-Maastricht (Table 5):
  - Fiscal policy procyclical pre-Maastricht; essentially acyclical post-Maastricht for euro area.
  - Electoral distortion reduced post-Maastricht (post coefficient ~40% of pre).
  - Commitment and delegation contributed to better outcomes before Maastricht in pooled OLS, but little evidence post-Maastricht.
- Pre- vs. post-SGP (Table 6):
  - Commitment coefficients generally higher in post-SGP period (e.g., pooled OLS post-SGP 0.72**, 1.04**).
  - Delegation beneficial pre-SGP but not post-SGP in some specifications.
  - Growth volatility associated with more discipline post-SGP in pooled OLS (post-SGP 0.32**, 0.35**).
  - Fiscal policy more procyclical post-SGP (output gap coefficients larger in magnitude post-SGP, though not always significant).
  - Election-year deficit bias persists in both periods but is smaller post-SGP (e.g., pre-SGP -0.67***; post-SGP -0.49**).

### V. Forecasting Under Stability Programs and Empirical Findings on Forecast Errors
- Forecast errors defined as fiscal balance minus projected fiscal balance from Stability Programs.
- Regression for one- and two-year forecast errors for EU12 under SGP (1999-04) fitted (Table 7). Equation (symbols preserved):
  - tititititititititiiti
    IFAVOLSIZEDELCOMGOODTIMESGAPFE
    ,,7,6,5,4,3,2,1,
    εα+∂+∂+∂+∂+∂+∂+∂+=
- Regressors: output gap, Good times dummy (1999-2000), commitment dummy, delegation dummy, growth volatility, relative economic size, independent forecasts dummy (IFA for Austria, Belgium, Netherlands).
- Key empirical results (Table 7; dependent = forecast error of overall balance):
  - One-year ahead (pooled OLS):
    - Output gap: -0.18* (0.11)
    - Good times (1999-2000): 1.49*** (0.37)
    - Commitment: 1.04** (0.46)
    - Growth volatility: 0.26 (0.22)
    - Relative economic size: 0.04* (0.02)
    - Independent forecasts: 0.80* (0.48)
    - R2 = 0.40; N = 65; method pooled OLS.
  - One-year ahead (fixed effects):
    - Output gap: -0.25** (0.10)
    - Good times: 2.13*** (0.40)
    - Commitment: 0.42 (1.55)
    - Growth volatility: -0.22 (0.25)
    - Relative economic size: 1.33 (1.08)
    - Independent forecasts: omitted in this column.
    - R2 = 0.59; N = 65; fixed effects.
  - Two-year ahead (pooled OLS):
    - Good times: 1.99*** (0.72)
    - Commitment: 1.32* (0.73)
    - Growth volatility: 1.00*** (0.32)
    - Independent forecasts: 1.42** (0.74)
    - R2 = 0.44; N = 55; pooled OLS.
  - Two-year ahead (fixed effects): Good times and some coefficients significant; N = 54; R2 = 0.62.
- Interpretations:
  - Output gap negative and significant for one-year-ahead forecasts (optimistic forecasting in good times; more cautious in bad times).
  - Good times dummy (1999-2000) strongly positive and significant for forecast errors.
  - Commitment countries show more positive (or less negative) forecast errors → evidence of more cautious forecasting.
  - Independent forecasting agencies associated with lower forecast errors (supports Jonung and Larch, 2004).
  - Growth volatility linked to more conservative forecasting (significant for two-year ahead in pooled OLS).
  - Relative economic size largely insignificant except some pooled OLS coefficients.
- Frequency of positive forecast errors:
  - Figure 3 shows higher frequency of positive surprises among commitment countries compared with delegation countries during 1999–2004.
  - Particularly during downturn years, positive surprises were rare among delegation countries but more common among commitment countries.

Summary of empirical conclusions (as stated in source):
- Commitment governance contributed more to fiscal discipline in the post-SGP period; delegation was more effective only prior to adoption.
- Countries with high growth volatility tended to adopt more disciplined fiscal policy under the SGP (pooled OLS evidence) and had lower forecast errors.
- Weak evidence that larger countries performed worse under the SGP and Maastricht (appears when fiscal governance variables are omitted).
- Rules-based framework mitigated electorally-motivated fiscal profligacy (electoral distortion fell during Maastricht, rose under SGP but remained below pre-framework levels).
- Independent forecasts associated with lower forecast errors under the SGP.
- Procyclical fiscal history eliminated after Maastricht but returned during the SGP period.

### VI. Conclusion and Policy Implications
Findings:
- Rules-based frameworks can be effective in combating politically-motivated fiscal distortions; Maastricht led to substantial adjustment.
- SGP contributed to fiscal discipline in Austria, Belgium, Finland, Ireland, Netherlands, Spain (and Denmark and Sweden outside euro area).
- Empirical evidence indicates diminished electoral motive for fiscal loosening under rules-based frameworks.

Why SGP worked for some countries:
- Commitment countries: greater domestic political costs for violating fiscal contracts → stronger self-enforcement.
- Volatile countries: value external anchor; more likely to accept SGP constraints.
- Small countries: more amenable to external peer pressure and potential reputational costs.

Projections for newer EU members:
- Many new and acceding members have higher-than-average deficits (Table 8).
- Reasons SGP may work better for these countries:
  - Most have adopted commitment technologies (Ylaoutinen, 2004).
  - Economic size far below EU average → more amenable to external influences.
  - Higher economic growth volatility (standard deviation over past 10 years twice that of older EU members).
- Table 8 highlights stylized facts for new/acceding members (preserved as in source):
  - Bulgaria: Average fiscal balance 0.5; Commitment (from 1998); Relative economic size 0.13; Economic volatility 5.4.
  - Czech Republic: Average fiscal balance -6.2; Commitment (from 1994); Relative economic size 0.59; Economic volatility 2.1.
  - Hungary: Average fiscal balance -5.2; Delegation (from 2002); Relative economic size 0.55; Economic volatility 1.2.
  - Poland: Average fiscal balance -3.5; Commitment (from 1999); Relative economic size 1.72; Economic volatility 1.9.
  - Average (new/acc.): -3.3 average fiscal balance; relative economic size 0.35; economic volatility 2.6.
  - Average EU-14: -0.6 average fiscal balance; relative economic size 6.93; economic volatility 1.3.
  - Average EU-11: -1.1 average fiscal balance; relative economic size 7.18; economic volatility 1.3.
  - Average EU-8 (excluding France, Germany, Italy): -0.5 average fiscal balance; relative economic size 2.88; economic volatility 1.5.
  - Source: Ylaotinen (2004); Eurostat. (Table preservation: net lending averages 2000-04; SIZE = real GDP % of EU25; VOL = sd of real growth 1996-2004.)

Policy implications and reform directions:
- Increase enforceability in non-complying countries without undermining SGP’s disciplining effect elsewhere.
- Balance legitimacy and flexibility: enforceability requires legitimacy; excessive flexibility risks weakening external anchor.
- Avoid lax application for large countries to prevent negative demonstration effects and erosion of discipline among newer members.
- Encourage domestic institutional reforms to foster “bottom-up” peer pressure and national ownership, especially in large/delegation countries:
  - Use of independent macro and fiscal forecasting agencies to improve forecast accuracy and reduce optimistic biases (recommendation grounded in empirical finding that independent forecasts lower forecast errors).
  - Strengthen domestic commitment mechanisms where appropriate; for delegation countries, bolster domestic institutions and independent assessments.
- Tailor reforms to country circumstances: commitment technologies, independent forecasts, and multi-annual frameworks can enhance compliance and self-enforcement.

*Source: Stability Programs and IMF staff estimates; content unit: _wp06116 - 3. Percentage of Positive Forecast Errors for Overall Balance, 1999–2004 (pages 3–28 of the supplied PDF).*

### REFERENCES

### _wp06116 - REFERENCES

### Fiscal rules and the Stability and Growth Pact
- Annett, Anthony, Jörg Decressin, and Michael Deppler, 2005, “Reforming the Stability and Growth Pact,” IMF Policy Discussion Paper PDP/05/2 (Washington: International Monetary Fund).
- Buti, Marco, Sylvester Eijffinger, and Daniele Franco, 2003, “Revisiting the Stability and Growth Pact: Grand Design or Internal Adjustment?,” European Economy Economics Papers No. 180, European Commission.
- Buti, Marco, and Lucio R. Pench, 2004, “Why Do Large Countries Flout the Stability Pact” And What Can be Done About It?” Journal of Common Market Studies, Vol. 42, pp. 1025–32.
- Buti, Marco, and Paul van den Noord, 2004, “Fiscal Policy in EMU: Rules, Discretion, and Political Incentives,” European Economy Economics Papers No. 206, European Commission.
- De Haan, Jakob, Helge Berger, and David-Jan Jansen, 2003, “The End of the Stability and Growth Pact?” unpublished.
- Hallerberg, Mark, Rolf Strauch, and Jürgen von Hagen, 2001, The Use and Effectiveness of Budgetary Rules and Norms in the EU Member States, Report prepared for the Dutch Ministry of Finance by the Institute of European Integration Studies.
- Hallerberg, Mark, Rolf Strauch, and Jürgen von Hagen, 2004, “The Design of Fiscal Rules and Forms of Fiscal Governance in European Union Countries,” ECB Working Paper, No. 419.
- Koen, Vincent, and Paul van den Noord, 2005, “Fiscal Gimmickry in Europe: Once-Off Measures and Creative Accounting,” OECD Economics Department Working Paper No. 417. OECD.
- Kopits, George, and Steven Symansky, 1998, “Fiscal Policy Rules,” IMF Occasional Paper No. 162.
- Schuknecht, Ludger, 2004, “EU Fiscal Rules: Issues and Lessons from Political Economy,” ECB Working Paper, No. 421.
- Strauch, Rolf, Mark Hallerberg, and Jürgen von Hagen, 2004, “Budgetary Forecasts in Europe: the Track Record of Stability and Convergence Programmes,” Economic Working Papers at Centro de Estudios Andaluces, E2004/42.
- UK Treasury, 2004, “The Stability and Growth Pact: A Discussion Paper,” HM Treasury.
- Von Hagen, Jürgen, 2005, “Fiscal Rules and Fiscal Performance in the EU and Japan,” Institute for Monetary and Economic Studies, Bank of Japan, Discussion Paper No. 2005-E-5.
- Von Hagen, Jürgen, and Guntham Wolff, 2004, “What do deficits tell us about debts? Empirical evidence on creative accounting with fiscal rules in the EU,” CEPR Discussion Papers No. 4579.

### Fiscal institutions, budgeting, and governance
- Alesina, Alberto, and Guido Tabellini, 2003, “Bureaucrats or Politicians,” IGIER Working Paper, No. 238.
- Hallerberg, Mark, 2004, Domestic Budgets in a United Europe: Fiscal Governance from the End of Bretton Woods to EMU, Cornell University Press.
- Hallerberg, Mark, and Jürgen von Hagen, 1999, “Electoral Institutions, Cabinet Negotiations, and Budget Deficits in the European Union,” in Fiscal Institutions and Fiscal Performance, eds. James Poterba and Jurgen von Hagen, Chicago: University of Chicago Press.
- Inman, Robert. P., 1996, “Do Balanced Budget Rules Work? U.S. Experience and Possible Lessons for the EMU,” NBER Working Paper No. 5838.
- Von Hagen, Jürgen, 1992, “Budgeting Procedures and Fiscal Performance,” European Economy, Reports and Studies: Towards Greater Fiscal Discipline, No. 3 (Brussels: European Commission), pp. 311-418.
- Von Hagen, Jürgen, 1998, “Budgeting Institutions for Aggregate Fiscal Discipline,” ZEI Policy Paper No. B98-01, Center for European Integration Studies.
- Von Hagen, Jürgen, and Ian Harden,1996, “Budget Processes and Commitment to Fiscal Discipline,” IMF Working Paper, WP/96/78 (Washington: International Monetary Fund).
- Von Hagen, Jürgen, Andrew Hughes Hallett, and Rolf Strauch, 2000, Budgetary Consolidation in EMU, Center for Economic and Policy Research.

### Political economy, government size, and fiscal behavior
- Alesina, Alberto, and Roberto Perotti, 1995, “Fiscal Expansions and Adjustments in OECD Countries,” Economic Policy, Vol. 21, pp. 205-48.
- Alesina, Alberto, Nouriel Roubini, and Gerald Cohen, 1999, Political Cycles and the Macroeconomy (Cambridge, Massachusetts: MIT Press).
- Alesina, Alberto, and Roman Wacziarg, 1998, “Openness, Country Size, and Government,” Journal of Public Economics, Vol. 69, pp. 305-321.
- Annett, Anthony, 2002, “Politics, Government Size, and Fiscal Adjustment in Industrial Countries,” IMF Working Paper 02/162 (Washington: International Monetary Fund).
- De Haan, Jakob, Jan-Egbert Sturm, and Geert Beikhuis, 1999, “The Weak Government Thesis: Some New Evidence,” Public Choice, Vol. 101, pp 163-76.
- Fatas, Antonio, and Illian Mihov, 2001, “Government Size and Automatic Stabilizers: International and Intranational Evidence,” Journal of International Economics, Vol. 55, pp. 3-28.
- Kontopoulos, Yianos, and Roberto Perotti, 1999, “Government Fragmentation and Fiscal Policy Outcomes: Evidence from OECD Countries,” in Fiscal Institutions and Fiscal Performance, eds. James Poterba and Jurgen von Hagen, Chicago: University of Chicago Press.
- Rodrik, Dani, 1998, “Why Do More Open Economies Have Bigger Governments?” Journal of Political Economy, Vol. 106, pp. 997-1032.
- Rogowski, Ronald, 1987, “Trade and the Variety of Democratic Institutions,” International Organization, Vol. 41, pp. 203-223.
- Roubini, Nouriel, and Jeffrey Sachs, 1989, “Political and Economic Determinants of Budget Deficits in the Industrial Democracies,” European Economic Review, Vol. 33, pp. 903-938.
- Velasco, Andres, 1999, “A Model of Endogenous Fiscal Deficits and Delayed Fiscal Reforms,” in Fiscal Institutions and Fiscal Performance, eds. James Poterba and Jurgen von Hagen, Chicago: University of Chicago Press.
- Wyplosz, Charles, 2005, “Fiscal Policy: Institutions Versus Rules,” National Institute Economic Review, No. 191, pp. 70-84.

### Fiscal policy in EMU and Europe
- Balassone, Fabrizio, and Mauro Francese, 2004, “Cyclical Asymmetry in Fiscal Policy, Debt Accumulation, and the Treaty of Maastricht,” Temi di Discussione No. 531, Banca D’Italia.
- Berger, Helge, George Kopits, and Istvan Szekely, 2004, “Fiscal Indulgence in Central Europe: Loss of the External Anchor?,” IMF Working Paper WP/04/62 (Washington: International Monetary Fund).
- Debrun, Xavier, and Hamid Faruqee, 2004, “Fiscal Policy Behaviors in a Heterogeneous Monetary Union: the Case of EMU,” (unpublished; Washington: International Monetary Fund.
- European Commission, 2001, “Public Finances in EMU, 2001,” European Economy, No. 3.
- European Commission, 2003, “Public Finances in EMU, 2003,” European Economy, No. 3.
- Fatas, Antonio, Jurgen von Hagen, Andrew Hughes Hallett, Rolf Strauch, and Anne Sibert, 2003, Stability and Growth in Europe: Towards a Better Pact, Center for Economic Policy Research, London.
- Gali, Jordi, and Roberto Perotti, 2003, “Fiscal Policy and Monetary Integration in Europe,” Economic Policy: A European Forum, No. 37, pp. 533-572.
- Hughes Hallett, Andrew, John Lewis, and Jürgen von Hagen, 2004, Fiscal Policy in Europe, 1991-2003: An Evidence-Based Analysis, Center for Economic Policy Research, London.
- Jaeger, Albert, 2001, “Cyclical Fiscal Policy Behavior in EU Countries,” IMF Staff Country Report 01/201 (Washington: International Monetary Fund).
- Jonung, Lars, and Martin Larch, 2004, “Improving Fiscal Policy in the EU: the Case for Independent Forecasts,” Economics Papers No. 210, European Commission.
- Mills, Phillipe, and Alain Quinet, 2002, “How to Allow the Automatic Stabilizers to Operate Fully? A Policymaker’s Guide for EMU Countries,” in Marco Buti, Jurgen von Hagen, and Carlos Martinez-Mongay, eds. The Behavior of Fiscal Authorities: Stabilization, Growth, and Institutions, European Communities.
- Mühleisen, Martin, Stephan Danninger, David Hauner, Kornelia Krajnyak, and Bennett Sutton, 2005, “How Do Canadian Budget Forecasts Compare with Those of Other Industrial Countries?” IMF Working Paper WP/05/166 (Washington: International Monetary Fund).
- Organization for Economic Cooperation and Development, 2005, Economic Survey: Euro Area (Paris: OECD).
- Tujula, Mika, and Guido Wolswijk, 2004, “What Determines Fiscal Balances? En Empirical Investigation in Determinants of Changes in OECD Budget Balances,” ECB Working Paper, No. 422.
- Ylaoutinen, Sami, 2004, “Fiscal Frameworks in the Central and Eastern European Countries,” Finnish Ministry of Finance Discussion Paper No. 72.

### Methodology, forecasting, and empirical techniques
- Haque, Nadeem Ul., M. Hashem Pesaran, and Sunil Sharma, 1999, “Neglected Heterogeneity and Dynamics in Cross-Country Savings Regressions,” IMF Working Paper No. 99/128 (Washington: International Monetary Fund).
- Judson, Ruth A., and Ann L. Owen, 1999, “Estimating Dynamic Panel Data Models: A Guide for Macroeconomists,” Economics Letters, Vol. 65, pp. 9-15.
- Jonung, Lars, and Martin Larch, 2004, “Improving Fiscal Policy in the EU: the Case for Independent Forecasts,” Economics Papers No. 210, European Commission.
- Mühleisen, Martin, Stephan Danninger, David Hauner, Kornelia Krajnyak, and Bennett Sutton, 2005, “How Do Canadian Budget Forecasts Compare with Those of Other Industrial Countries?” IMF Working Paper WP/05/166 (Washington: International Monetary Fund).
- International Monetary Fund, 2001, Fiscal Policy and Macroeconomic Stability, World Economic Outlook, May 2001.
- International Monetary Fund, 2005, Promoting Fiscal Discipline: Is There a Role for Fiscal Agencies?, Fiscal Affairs Department.
- Koen, Vincent, and Paul van den Noord, 2005, “Fiscal Gimmickry in Europe: Once-Off Measures and Creative Accounting,” OECD Economics Department Working Paper No. 417. OECD.

*References list from _wp06116 - REFERENCES*

---


_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2006/_wp06116.pdf_