Fiscal Rules and the Procyclicality of Fiscal Policy in the Developing World
IMF Working Papers, July 10, 2014
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Bibliographic details
- Authors: Elva Bova, Nathalie Carcenac, Martine Guerguil
- Published: July 10, 2014
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781498305525.001
Summary
- This paper documents the spread of fiscal rules in the developing world and investigates the relation between fiscal rules and procyclical fiscal policy.
- Since the early 2000s, developing countries outnumbered advanced economies as users of fiscal rules.
- Rules were adopted either as part of the toolkit to join currency unions or to strengthen fiscal frameworks during and after large stabilization and policy reform episodes.
- The greater use of fiscal rules has not shielded these countries from procyclicality, since fiscal policy remains procyclical following the adoption of a fiscal rule.
- Partial evidence suggests that some features of “second generation” rules may be associated with less procyclicality:
- the use of cyclically-adjusted targets,
- well-defined escape clauses,
- stronger legal and enforcement arrangements.
Major Findings
- Developing countries overtook advanced economies in the use of fiscal rules since the early 2000s.
- Adoption drivers include joining currency unions and strengthening fiscal frameworks after large stabilization and policy reform episodes.
- Fiscal policy in developing countries remains procyclical even after adopting fiscal rules.
- Certain rule design features (cyclically-adjusted targets, escape clauses, legal/enforcement strength) show partial association with reduced procyclicality.
Policy Implications and Recommendations
- Consider designing “second generation” fiscal rules with:
- cyclically-adjusted targets to account for economic cycle effects,
- clearly articulated escape clauses to allow temporary deviations under well-defined circumstances,
- stronger legal and enforcement arrangements to bolster rule credibility and adherence.
- Recognize that adoption of fiscal rules alone may not be sufficient to eliminate procyclical fiscal responses; rule design and institutional context matter.