The reform of the EU fiscal framework: an enhanced surveillance role for independent fiscal councils?

The COVID-19 pandemic and the energy crisis have resulted in a significant deterioration of fiscal outcomes in many countries around the world. This creates the need to consolidate public finances in the near future.  However, the timing of fiscal consolidation is critical because a fiscal adjustment in bad economic times, i.e., a procyclical response, could delay economic recovery and the decline of the debt to GDP ratio, as in the euro area at the time of the sovereign debt crisis (Darvas et al., 2018).

Figure 1: Fiscal councils mitigate fiscal policy procyclicality. 

 

Building on earlier literature (e.g., Wiese et al., 2018; Gootjes and de Haan, 2022) in a closely related paper (Chrysanthakopoulos and Tagkalakis, 2022b), we find that fiscal councils increase the likelihood of starting a fiscal adjustment. This particularly true for a council with enhanced remit and with strong independence & accountability. In more detail, the probability of initiating a fiscal adjustment increases by about 9% in the case of a fiscal council (FC) with enhanced remit and by about 8% in the case of fiscal council with strong independence and accountability (ceteris paribus).

Moreover, we find that a fiscal council with enhanced remit, strong independence & accountability and enhanced tasks & instruments increase the probability of a successful fiscal adjustment. As reported in Figure 3, the probability of success increases by about 14% in the case of a fiscal council with enhanced remit, by about 8% in the case of fiscal council with enhanced tasks & instruments, and by about 7% in the case of a fiscal council with strong independence and accountability (ceteris paribus). The results control for likely endogeneity between successful fiscal adjustments and the specific design features of fiscal councils by means of the augmented inverse probability weighted estimator as in Jorda and Taylor (2016).

Employing a panel for 35 advanced economies over the period 1990-2020, we find that independent fiscal councils can curb the procyclicality of fiscal policy and can even lead to countercyclical response. In more detail, a fiscal council with strong remit, independence & accountability and adequate resources can mitigate fiscal procyclicality. In addition, we provide evidence that a fiscal council with strong remit and independence & accountability increases the probability of initiating a fiscal adjustment. That is, it will identify a fiscal deterioration in time and contribute to its faster correction. Moreover, an independent fiscal council with enhanced remit, tasks & instruments, as well as strong independence & accountability increases the likelihood of a successful fiscal adjustment.  This implies that the fiscal council will ensure that the fiscal effort is based on reliable and realistic forecasts, supervise and closely monitor the fiscal consolidation effort, and correct any deviations, thus contributing to the success of the fiscal adjustment. These findings are particularly relevant in view of the on-going discussion on the revision of the EU fiscal framework, and the importance that the new framework should assign to national independent fiscal councils for monitoring compliance with national and EU fiscal rules (see for example, Beetsma and Debrun, 2018; Beetsma et al, 2019; Debrun and Reuter, 2022; Feld and Reuter, 2022, Beetsma et al. 2022).