The Political Economy of Fiscal Transparency and Independent Fiscal Councils

IMF Working Papers, September 1, 2017

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The global surge in independent fiscal councils (IFCs) raises three related questions: How can IFCs improve the conduct of fiscal policy? Are they simultaneously desirable for voters and elected policymakers? And are they resilient to changes in political conditions?
The paper builds a model in which voters cannot observe the true competence of elected policymakers; IFCs’ role is to mitigate this information imperfection.
Equilibrium public debt is excessive because policymakers are described as “partisan” and “opportunistic.”
Key comparative outcomes:
- If voters only care about policymakers’ competence, both the incumbent and the voters would be better off with an IFC as the debt bias would shrink.
- When other considerations eclipse competence and give the incumbent a strong electoral advantage or disadvantage, setting up an IFC may be counterproductive as the debt bias would increase.
- If the incumbent holds a moderate electoral advantage or disadvantage, voters would prefer an IFC, but an incumbent with a large advantage may prefer not to have an IFC.

Information asymmetry: voters cannot observe true policymaker competence; IFCs reduce this informational imperfection.
Behavioral drivers of debt bias:
- “Partisan” bias: policymakers favor policies aligned with partisan objectives.
- “Opportunistic” bias: policymakers take short-term actions to improve electoral prospects at the expense of fiscal balance.
Institutional impact: IFCs change voters’ inferences about competence, which alters policymakers’ incentives and therefore equilibrium debt outcomes.

Establishing an IFC can only lower the debt bias if voters care sufficiently about policymakers’ competence.
Not all political environments are conducive to the emergence of IFCs.
IFCs are vulnerable to shifts in political conditions; changes in the relative importance voters place on competence versus other considerations can reverse the effect of IFCs on debt bias.
Preferences over IFC establishment differ between voters and incumbents depending on the incumbent’s electoral advantage:
- Voters prefer IFCs when incumbents have a moderate electoral advantage or disadvantage.
- Incumbents with a large electoral advantage may prefer not to have an IFC.

Consider the distribution of voter preferences: IFCs are likely to reduce debt bias only where voter concern for competence is sufficiently strong.
Evaluate political context: policymakers and reformers should assess whether the current political environment (incumbent advantage/disadvantage) will produce the intended fiscal improvements from an IFC.
Anticipate vulnerability: design IFC mandates and protections mindful that IFCs are susceptible to changing political incentives and may be undermined if political conditions shift.