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Independent Fiscal Councils: Watchdogs Or Lapdogs?

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Independent Fiscal Councils: Watchdogs Or Lapdogs? January 2018 “Taxation without representation is tyranny.” From the premises of the or lapdogs? Independent Fiscal Councils: Watchdogs American Revolution to this day, the idea that control over the public purse rests with the People is a cornerstone of liberal democracies. Independent Yet, more than two decades after putting unelected central bankers in charge of monetary policy, many countries have recently established independent fiscal institutions (or councils). Unlike central banks, fiscal councils do not exert any policy responsibility: they only analyze, Fiscal Councils: comment, forecast, and advise. As watchdogs of fiscal sanity, they must bark at careless political masters, but they can never bite them. Frustration with fiscal policy rules as well as a sense of urgency in reaffirming commitments to sustainable public finances largely explain Watchdogs or the emergence of such institutions, particularly in Europe. Still, toothless or not, their effectiveness hinges on their ability to somehow constrain or guide policymakers. So, do independent fiscal councils (IFCs) silently lapdogs? carry the seeds of tyranny? And if not, why and how can they make any difference? Edited by Roel Beetsma and Xavier Debrun The essays in this book survey the motivations for IFCs, analyze their core features and effectiveness in varied institutional settings, distill elements of best practice, and discuss future developments. The consensus emerging from the book is that fiscal councils can be useful in fostering sound policies if they benefit from strong political ownership, protections against partisan pressures, resources commensurate to their tasks, and a well-defined mandate addressing country-specific threats to fiscal sustainability and stabilization. Contentious points remain, however. While some embrace IFCs as a welcome first step towards full- blown fiscal policy delegation, others doubt they can thrive for long in political settings where memories of past crises fade rapidly. Also, the role they can play at the supranational level – as in the overall design of the European Union’s fiscal governance – remains subject to many question marks. ISBN 978-1-912179-08-4 Centre for Economic Policy Research 33 Great Sutton Street A VoxEU.org Book London EC1V 0DX CEPR Press Tel: +44 (0)20 7183 8801 Email: [email protected] www.cepr.org CEPR Press 9 781912 179084 Independent Fiscal Councils: Watchdogs or lapdogs? CEPR Press Centre for Economic Policy Research 33 Great Sutton Street London, EC1V 0DX UK Tel: +44 (0)20 7183 8801 Email: [email protected] Web: www.cepr.org ISBN: 978-1-912179-08-4 Copyright © CEPR Press, 2018. Cover credit, iStock: ROMAOSLO. Independent Fiscal Councils: Watchdogs or lapdogs? Edited by Roel M.W.J. Beetsma and Xavier Debrun A VoxEU.org eBook CEPR Press Centre for Economic Policy Research (CEPR) The Centre for Economic Policy Research (CEPR) is a network of over 1,000 research economists based mostly in European universities. The Centre’s goal is twofold: to promote world-class research, and to get the policy-relevant results into the hands of key decision- makers. CEPR’s guiding principle is ‘Research excellence with policy relevance’. A registered charity since it was founded in 1983, CEPR is independent of all public and private interest groups. It takes no institutional stand on economic policy matters and its core funding comes from its Institutional Members and sales of publications. Because it draws on such a large network of researchers, its output reflects a broad spectrum of individual viewpoints as well as perspectives drawn from civil society. CEPR research may include views on policy, but the Trustees of the Centre do not give prior review to its publications. The opinions expressed in this report are those of the authors and not those of CEPR. Chair of the Board Sir Charlie Bean Founder and Honorary President Richard Portes President Richard Baldwin Research Director Kevin Hjortshøj O’Rourke Policy Director Charles Wyplosz Chief Executive Officer Tessa Ogden Contents Foreword vii Introduction: Can independent fiscal councils be useful? 1 Roel M.W.J. Beetsma and Xavier Debrun I Fiscal councils in principle 1 Policy delegation and the Consensus Assignment 11 Simon Wren-Lewis 2 Fiscal councils in theory: First principles 19 Carlos Mulas-Granados 3 Fiscal councils and fiscal rules: Complements or substitutes? 31 Charles Wyplosz 4 Promoting good practices: The OECD Principles and beyond 37 Joachim Wehner II Fiscal councils in practice 5 Measuring IFI independence: A first pass using the OECD IFI database 47 Lisa von Trapp and Scherie Nicol 6 The effectiveness of fiscal councils: Emerging international evidence 65 Victor Duarte Lledó 7 Fiscal councils and fiscal transparency 75 James E. Alt, David Dreyer Lassen 8 Fiscal councils in federal or decentralised countries: Belgium, Germany and Spain 85 José Luis Escrivá, Eckhard Janeba, and Geert Langenus 9 Fiscal surveillance in the EU: from maze to pyramid? 103 Ludovit Ódor Independent Fiscal Councils: Watchdogs or lapdogs? III Lessons from experience 10 The UK Office of Budget Responsibility: Mission accomplished? A perspective from a former practitioner 117 Kevin Page 11 Children of the crisis: Fiscal councils in Portugal, Spain and Ireland 125 Michal Horvath 12 Homegrown: The Swedish fiscal policy framework 135 Lars Jonung 13 Some myths about independent fiscal institutions 145 George Kopits 14 Addressing the communications challenges facing an independent fiscal institution: A view from the Congressional Budget Office 155 Robert A. Sunshine IV The way forward 163 15 The European Fiscal Board: An experiment at the supranational level 165 Zareh Asatryan and Friedrich Heinemann 16 Fiscal councils: A first step towards fiscal delegation in Europe? 175 Henrique S. Basso and James Costain 17 Are fiscal councils here to stay? 187 Jürgen von Hagen vi Foreword In modern democracies, decisions on government spending are typically influenced by citizens, through their role as the electorate. The recent emergence, therefore, of independent fiscal councils (IFCs), where unelected bodies of experts are given the power to oversee fiscal policy, is of considerable interest. This eBook examines whether fiscal policy can take the same path that monetary policy did, two decades earlier, when it was devolved to independent central banks. Spending from the public purse is inherently a political decision, so the question surrounding IFCs is whether their role will be that of watchdog, directly exerting restraint on fiscal policy and freeing it from overly political control, or whether they inevitably become lapdogs to that same political control. The essays in this eBook are written by a group of leading macroeconomists, specialising in fiscal policy, public finance and political economy. The authors begin their research with a look at the origins of IFCs, seeking to understand why governments see a need for them on top of their existing fiscal frameworks. This is followed by an investigation into the variety of IFCs currently in practice, comparing the United Kingdom’s Office for Budget Responsibility and Swedish Fiscal Policy Council, set up, a priori, to address known gaps in fiscal policy, to fiscal councils in Spain, Portugal and Ireland, which were created under pressure to enhance fiscal credibility after the Global Crisis. The research rounds off with policy lessons for governments looking to adopt IFCs. There is a consensus that balance between rules and independent institutions, structural design and sufficient funding is key to their success. CEPR is grateful to Professors Roel Beetsma and Xavier Debrun for their joint editorship of this eBook. Our thanks also go to Sophie Roughton and Simran Bola for their excellent handling of its production. CEPR, which takes no institutional positions on economic policy matters, is delighted to provide a platform for an exchange of views on this important topic. Tessa Ogden Chief Executive Officer, CEPR January 2018 vii Introduction: Can independent fiscal councils be useful? Roel M.W.J. Beetsma and Xavier Debrun University of Amsterdam and CEPR; IMF 1 Discretion, that is policymakers’ ability to continuously adjust policy levers to serve well-defined objectives, is a mixed blessing. On the one hand, it allows timely responses to unforeseen events; on the other, it voids optimal, yet time-inconsistent, commitments and it lets distorted incentives turn into costly policy biases. The experience with stagflation in the 1970s and early 1980s, as well as numerous other episodes of high inflation, amply demonstrates the potentially disastrous consequences of leaving monetary policy in the hands of politicians without any formal constraint on their decisions. Evidence of excessive government deficits and mounting public debts since the 1970s suggests that unconstrained fiscal discretion can also have harmful consequences for the economy. These excesses stimulated a large body of academic research showing the potential benefits of constraining discretion over and above conventional democratic controls. In practice, there are three main ways of doing so. One is to impose numerical rules on meaningful macro aggregates, such as limits on the growth of the money supply, and statutory caps on public debt, deficit, or expenditure growth. The second involves setting up independent institutions, aimed at greasing the wheels of democratic accountability mechanisms affecting the conduct of fiscal policy, including official watchdogs mandated to
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