The London School of Economics and Political Science Flirting with Disaster –
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The London School of Economics and Political Science Flirting with Disaster – Explaining Excessive Public Debt Accumulation in Italy and Belgium Zsófia Barta A thesis submitted to the European Institute of the London School of Economics and Political Science for the degree of Doctor of Philosophy, London, September 2011. Declaration I certify that the thesis I have presented for examination for the MPhil/PhD degree of the London School of Economics and Political Science is solely my own work other than where I have clearly indicated that it is the work of others (in which case the extent of any work carried out jointly by me and any other person is clearly identified in it). The copyright of this thesis rests with the author. Quotation from it is permitted, provided that full acknowledgement is made. This thesis may not be reproduced without the prior written consent of the author. I warrant that this authorization does not, to the best of my belief, infringe the rights of any third party. 2 Abstract The sovereign debt-crises that recently unfolded in Europe highlight how incompletely we understand why prosperous developed countries persistently accumulate debt even in the face of risk of fiscal turmoil. Scholarly research explored why countries run deficits, but it remains unexplained why countries fail to put their fiscal houses in order once public debt reaches potentially dangerous proportions. This thesis argues that the key to the problem of excessive debt accumulation is the lack of compromise among powerful socio-economic groups within the polity about the distribution of the necessary fiscal sacrifices. As long as each group finds it expedient to resist spending cuts and tax increases that place part of the burden of consolidation on its members, stabilization is delayed and debt is allowed to grow. The readiness of groups to reach a compromise and accept a share of the fiscal pain is a function of the economic harm each suffers from the side-effects of fiscal imbalances, such as high inflation or declining international competitiveness. Therefore, the insulation of socio- economic actors from such side-effects delays stabilization. This perspective sheds new light on unintended consequences of EMU-membership. This explanation is couched in a society-centred analysis of policy making. The thesis identifies coalitions of societal interest to explain policy choices, along the lines laid down in Gourevitch’s Politics in Hard Times (1986) and it uses Alesina and Drazen’s (1991) war of attrition model of delayed stabilization to analyse the costs and benefits for socio-economic groups of resisting fiscal pain. Using this approach, it provides theoretically guided historical analyses of Belgium’s and Italy’s experiences with excessive debt accumulation in the 1980s, consolidation in the 1990s and mixed results in the 2000s, demonstrating how the interests of societal groups shaped the politics of fiscal policy-making and investigating the effect of the EMU accession on fiscal outcomes. 3 Acknowledgements Beyond all the interesting things I learnt about politics and policy making in different countries through my Phd-research, my doctoral studies also taught me a few personal lessons. Perhaps the most important of these is how much collective effort can hide behind what might seem an essentially individual endeavour. I could have never completed this dissertation without the help, encouragement and advice of people around me. First and foremost, I would like to thank my supervisors. Waltraud Schelkle gave me guidance in developing this project from the very start. Her wholehearted support and candid criticism helped me to have confidence in my project throughout the four years. Beyond providing expert advice in academic questions, she also gave me indispensable personal support at times when I was struggling with the practical and emotional challenges that writing a dissertation sometimes involves. I can only hope that I will have the opportunity to pass on the kindness that she has shown towards me to students of my own in the future. Erik Jones became a co-supervisor of this dissertation in the last year. Yet, his insights and advice crucially shaped the end product and I am extremely grateful to him for helping me to refine my argument and frame it more effectively. I am also indebted to him for his advice on and help with the practical aspects of academic life. Last but not least, I would like to thank Willem Buiter whose guidance was central to the early development of this project. I also received much-appreciated advice from many of the faculty at the European Institute. Bob Hancké, Christa van Wijnbergen, Marco Simoni and Helen Wallace in particular gave important feedback on different parts of this dissertation. I would also like to thank Joachim Wehner at the Government Department for his comments on various stages of this project and for his suggestions on how to develop it further. I would like to express my appreciation to the friends-cum-colleagues whose support and company made the past four years a truly memorable period in my life. Bryon and Andreas were always there for me. I will always remember fondly the long discussions on the academic and not-so-academic topics that we had. Alison and Costi have also been great friends and helped me to deal with the ups and downs with Phd-life. My other colleagues in “J14” were a great community to work in. Among my friends outside of the circle of my Phd-colleagues, I would like to single out Léna for special thanks. She provided extremely important support throughout my doctoral studies. Her specific blend of “Hungarianness” and common sense as well as her own earlier experiences with the Phd-process allowed her both to understand my periodic dramas over certain issues and to propose sensible solutions to them. My friends in Budapest and all over the world kept patiently encouraging me through the long gestation period of this project, which I am deeply grateful for. Finally, I would like to thank my family. I am grateful to Robert for bearing with me throughout these years, tirelessly reading and commenting on several drafts of chapters and discussing various theoretical problems I grappled with. My final and greatest thanks go to my parents. I cannot describe how much it meant to me that I could always count on their unconditional love and support. 4 Contents Chapter 1. - Introduction: The politics of excessive indebtedness 9 The puzzle of risky debt accumulation 12 The literature: Fiscal governance and fiscal discipline 15 The argument in brief and plan of the thesis 26 Chapter 2. - The theoretical approach: Coalitions of societal interests and delayed fiscal stabilization 30 Applying the Gourevitchian society-centred framework to fiscal policy 33 The war of attrition model: strategic choices of societal actors in a dynamic context 40 The missing pieces of the puzzle: institutional, ideational and international aspects of delayed fiscal stabilization 45 Methodology: Studying the societal background of fiscal policy making 54 Appendix 1. to Chapter 2. - The war of attrition game 63 Appendix 2. to Chapter 2. - Overview of debt per GDP ratios in OECD countries 71 Chapter 3. - Biding their time: Policy passivity and debt accumulation in Italy in the 1980s 72 Fiscal policy in the 1980s: perilous passivity 78 Coalitions of societal interests in the making: the origins of the policy stalemate of the 1980s 84 Fiscal problems as catalysts for political change: The fall of the First Republic 92 Conclusion 101 Chapter 4. - Fiscal roller-coaster: Consolidation and relapse in Italy aFter Maastricht 103 The not-so-exceptional politics of the formative years of the Second Republic 109 The two fiscal poles in Italian politics 115 Making sense of dynamic stasis: coalitions of societal interests, the euro and the war of attrition 126 Conclusion 134 Chapter 5. - Lopsided austerity: Belgium’s experience with unstoppable debt growth in the 1980s 137 Fiscal policies in the 1980s: fiscal pain in vain 142 5 Labour, business, Flanders and Wallonia: The politics of welfare-consolidation Belgian- style 149 Fiscal trouble as a catalyst for political change: The emergence of the Flemish-Walloon redistributive conflict 156 Conclusion 165 Chapter 6. - The undeserving poster child? Fiscal relief and persistent problems in Belgium after Maastricht 167 The Maastricht moment: opportunity or constraint? 172 The changing dimensions of the social security problem since the euro-accession 180 The changing faces of redistributive politics in Belgium: societal coalitions, the war of attrition and the euro 185 Conclusion 188 Chapter 7. - Conclusion: Societal coalitions and the politics of Fiscal pain 190 Tracing the politics of debt in Italy and Belgium 192 Fiscal policy making in hard times: Societal groups, policy influence and coalitions of interest 198 Political reconfigurations and wars of attrition over fiscal stabilization 205 Competing and complementary theoretical approaches 208 Contributions 228 6 List oF tables and graphs Figure2. 1 - Gross consolidated debt general government in selected OECD countries 57 Figure2. 2 – Net financial liabilities of general government in selected OECD countries 58 Figure2. 3– GDP per capita at constant prices in selected OECD countries 58 Figure2. 4 – The evolution of gross government debt in Belgium and Italy 59 Figure A. 1 - stylized game of public good provision 65 Figure A. 2 Gross debt general government – in OECD countries 1970-1980 71 Figure3. 1 - Gross consolidated debt general government (1970-1991) 73 Figure3. 2 – Net borrowing, cyclically adjusted net borrowing, primary deficit and interest expenses (1980-1991) 73 Figure3. 3 - Primary expenditure and revenues (1980-1991) 80 Figure3. 4 - Non-interest spending by type (1980-1991) 81 Figure3. 5- Revenues by type (1980-1991) 82 Figure4. 1 – Gross consolidated debt general government (1991-2008) 103 Figure4.