Fiscal Policy And Structural Reform
IMF Blog, March 27, 2015
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Bibliographic details
- Authors: Vitor Gaspar
- Published: March 27, 2015
Context and central question
- Publication: March 27, 2015
- Author: Vitor Gaspar
- Central question: What is the relation between fiscal consolidation and structural reform, particularly how to raise a country’s potential growth while restoring healthy public finances amid high public debt and tepid potential growth (example: the euro area)?
Roles of fiscal policy in supporting growth and structural reform
- Fiscal structural reform can build sound, strong, resilient and growth-friendly fiscal institutions.
- Fiscal frameworks are a crucial part of macroeconomic risk management.
- Prudent conduct of fiscal policy is a cornerstone for stable and sustainable growth.
Three specific roles fiscal policy can play
- Fiscal instruments for implementation:
- Example: Reducing labor taxes and social security contributions can positively impact employment and economic activity.
- Acknowledged budgetary costs can be reduced by targeting reductions to specific groups.
- Figure 1 (referenced) illustrates effectiveness of targeted employer social security contributions—elderly in Germany and youth in Sweden—where employment growth in targeted segments outpaced that of the broader population.
- Helping build political consensus:
- Fiscal policy can compensate groups adversely affected by proposed structural reform.
- Example: In the 1990s, Sweden and Finland enacted labor tax cuts in parallel with reductions in employment protection (Figure 2 referenced).
- Managing timing of benefits and smoothing transitions:
- Fiscal policy can offset short-term detrimental effects of reform, buying time for long-term benefits to materialize.
- Short-run demand support can be achieved through productive public investment, with guidance to be provided in the forthcoming IMF policy paper on “Making Public Investment More Efficient.”
- Particularly appropriate when interest rates are close to zero (the zero lower bound), when fiscal multipliers are larger and negative short-term impacts of some reforms may be more pronounced.
- Figure 3 (referenced) presents implications of a reduction in employment protection legislation, showing particularly costly output losses and simulations suggesting fiscal policy can offset short-term economic costs of reform while slightly increasing public debt in the near term.
Principles for assessing macroeconomic support role of fiscal policy for structural reform
- Ensure debt sustainability and market confidence.
- Maintain a credible commitment to see the structural reform through to fruition.
- Obtain a good estimate of the costs and benefits of the reform and how they will materialize over time.
- Conduct an overall assessment of the macroeconomic situation and prospects.
Notable timings and references in text
- IMF Fiscal Monitor spring edition referenced to be issued on April 8 (for more details on stability impacts).
- Upcoming IMF policy paper on “Making Public Investment More Efficient” referenced for conditions under which public investment can support demand.
Source: Fiscal Policy And Structural Reform — Vitor Gaspar, March 27, 2015.
