Global Finance between Rigor and Growth: Which Implications for International Governance? Lecce, May 31 st 2013 Luca Zamparini (Università del Salento, Lecce, Italy)

Structure of the presentation Extent of Debt Episodes of Fiscal Consolidation and Growth Relationships between Fiscal Consolidation and Growth Conclusions

Fiscal Consolidation is necessary…. Costs of capital Distortionary taxes Inflation Greater volatility in macroeconomic indicators 10% higher Debt/GDP implies 0.2% lower GDP growth (Kumar and Woo, 2010)

Fiscal consolidation is not neutral with respect to growth. Historically, some episodes have shown a positive linkage between fiscal consolidation and growth

Most simulations imply a negative short term effect of fiscal consolidation on growth

However, economic theory has highlighted few cases in which fiscal consolidation has been associated with strong growth Denmark ( ), ), Ireland(1987–90), Finland (1992–98) and Sweden (1993–98) “Small” economies Large depreciation Solid growth in trading partners

Fiscal Consolidation and Increased Investments Level of aggregate demand and monetary variables More stable exchange rates Investors’ confidence and reduction of probability of financial crises (Bertola and Drazen, 1993) Expectations of less dramatic tax increases or of tax reductions in the future (Blanchard, 1990) Reduction of capital flight (Hjelm, 2002)

Critical issues in the current economic situation No role for external demand given that most advanced economies are growing slowly or not at all (IMF, 2010) Fiscal multipliers are significantly larger in downturns than in expansions (Auerbach and Gorodnichenko, 2012; Batini and others, 2012; Baum and others, 2012) No room for conventional monetary stimulus No currency depreciation (Monetary Union)

Composition of fiscal consolidation matters…. Cuts in transfers and the wage bill tend to last longer and can be expansionary Tax increases and cuts in public investment tend to be contractionary and unsustainable (Von Hagen and Strautch, 2001) Importance to improve the efficiency in service delivery for health and education (Joumard et al, 2010; Sutherland et al, 2007)

Conclusions No clear linkage between rigor and growth Episodes of positive relationships between fiscal consolidation and growth Mixed results by the theory Critical issues in the current economic situation Composition of fiscal consolidation matters