Internal Seminar - Fiscal Rules and Transfers in a Union

Mar, 11/24/2020 - 13:00 / 13:45

Aula Virtuale 52, Luiss

Speaker: Chiara Felli , Luiss


I study dynamic optimal fiscal rules in a supranational setting in which
national governments with quasi-hyperbolic preferences are subject to
non-contractible idiosyncratic shocks. In this context, fiscal rules aim at
striking a balance between flexibility to react to shocks, and commitment to
avoid excessive government spending. I compare optimal rules in two different
environments: one in which the supranational authority can transfer resources
across countries (i.e. a fiscal union) and one in which transfers are
forbidden. I find that optimal fiscal rules can be implemented as deficit
limits and are complemented with transfers in a fiscal union. Both instruments
are debt-contingent: higher public debt contemporaneously tightens deficit
limits and reduces the entity of transfers. Further, gains from transfers are
found to be diminishing in the degree of political bias. I present a sample
calibration of the model using EU data. Optimal deficit limits are not far from
Maastricht 3%; maximum transfers are between 4% and 5% of GDP; while welfare
gains from transfers are around 10%.