{"id":336303,"date":"2010-02-18T13:42:51","date_gmt":"2010-02-18T18:42:51","guid":{"rendered":"tag:http:\/\/www.economist.com,2009:21004892"},"modified":"2010-02-18T13:42:51","modified_gmt":"2010-02-18T18:42:51","slug":"emf-roundtable-try-a-european-fiscal-fund","status":"publish","type":"post","link":"https:\/\/mereja.media\/index\/336303","title":{"rendered":"EMF roundtable: Try a European Fiscal Fund"},"content":{"rendered":"

Mark Thoma is a professor of economics at the University of Oregon. His popular blog on economics can be found here<\/a>. <\/em>For an explanation of this roundtable, click here<\/a>.<\/em><\/p>\n

\"\"<\/p>\n

THE difficulties faced by some countries within the euro area shows the need for mechanisms that can prevent the build-up of excessive sovereign debt, and the need for a resolution procedure for countries that get into trouble despite attempts to prevent excessive indebtedness.<\/p>\n

The proposal from Daniel Gros and Thomas Mayer addresses both of these issues. The actual implementation of the proposal would present difficult political problems, and I’m not sure the difficulties could be overcome, but the proposal itself has much to recommend it. Thus, I want to focus on a related problem.<\/p>\n

There are advantages to joining a currency union, but there are also costs. One important cost is that countries within the union cannot pursue individualised monetary policy.<\/p>\n

For example, if Spain and Greece weren’t subject to the constraints that a common currency imposes, they could devalue their currencies to stimulate exports. Importantly, this could be used to offset the economic contraction that would be caused by bringing their deficits under control. But this is not possible under a common currency.<\/p>\n

The fact that individual countries within the euro area cannot use monetary policy to stabilise their economies means they must rely upon fiscal policy as their main stabilisation tool. However, fiscal policy alone is not as effective at stabilisation as fiscal policy used in combination with monetary policy.<\/p>\n

Fiscal federalism is one way to improve stability. Fiscal federalism is a broad topic, but here it is refers to resource transfers made by a centralised authority in an attempt to stabilise economic activity.<\/p>\n

For example, when individual states within the U.S. have economic trouble, the federal government serves as an intermediary that transfers resources from states doing better in a relative sense to those doing relatively worse. These stabilising transfers happen automatically through federal tax collections (which are highest in states dong relatively well) and spending on federal social insurance programs (which is highest in states with the most problems).<\/p>\n

Unfortunately, the European Union does not have an effective mechanism for transferring resources among countries in order to stabilise economic activity. The European Union’s taxation powers are very limited, and the resources that are collected are far short of what would be needed for effective economic stabilisation. Thus, enhanced fiscal federalism within the European Union could improve economic stability.<\/p>\n

Fiscal federalism can help in more than one way. The fiscal federalism policies discussed so far stabilise economic activity across countries in the face of idiosyncratic shocks. Thus, if one country has a positive shock, and a second has a negative shock, a transfer can be used to stabilise output across the two countries.<\/p>\n

If these shocks are approximately random over time, then individual countries will be helped as much as they are hurt so that no country ends up footing the bill for other countries on a regular basis (ideally, anyway). And if enhanced stability raises utility (by lowering risk), or if the enhanced stability raises output (e.g. by avoiding the waste inherent in ramping production levels up and down), then there can be overall benefits that make everyone better off.<\/p>\n

But what about shocks that hit all countries, why does a centralised authority help in this case? When there is a common shock that hits all countries in the union, and when each country has individual control of fiscal policy, there will be an incentive to free ride on other countries. If every country but your own responds to a negative shock with aggressive fiscal policy, the spillovers from trade will help you quite a bit, so you can choose to respond less aggressively. But if all countries make this choice, the overall effect is an insufficient response.<\/p>\n

On the other side, when recovery starts, there will be an incentive for individual countries to pull back on fiscal policy first and let other countries sustain the recovery with their deficit spending. But, again, if all countries make this choice, the recovery will be sluggish or stall altogether. A centralised authority has the power to coordinate policy across countries and avoid the free-riding incentives that exist for individual countries.<\/p>\n

Despite its merits, the implementation of fiscal federalism presents political problems that are similar to those that would occur with an attempt to create a European Monetary Fund. So I doubt much progress will be made on either front. But if the goal is to provide more economic stability within the euro area, both a European Monetary Fund and a European Fiscal Fund would be helpful.<\/p>\n","protected":false},"excerpt":{"rendered":"

Mark Thoma is a professor of economics at the University of Oregon. His popular blog on economics can be found here. For an explanation of this roundtable, click here. THE difficulties faced by some countries within the euro area shows the need for mechanisms that can prevent the build-up of excessive sovereign debt, and the […]<\/p>\n","protected":false},"author":5821,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[7],"tags":[],"class_list":["post-336303","post","type-post","status-publish","format-standard","hentry","category-news"],"_links":{"self":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/posts\/336303","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/users\/5821"}],"replies":[{"embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/comments?post=336303"}],"version-history":[{"count":0,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/posts\/336303\/revisions"}],"wp:attachment":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/media?parent=336303"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/categories?post=336303"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/tags?post=336303"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}