The articles up to now have tried to frame the debate about fiscal policy, both by outlining the arguments for and against an increase in public expenditures, and by presenting the huge problems that concern the interpretation of the empirical evidence.
The last five years have probably been among the toughest for the western world since the great depression of the 30ies. At first, public intervention was needed to recover the battered financial system and to alleviate the consequences of the massive surge in unemployment. Despite having averted a full-blown depression, governments have found themselves overwhelmed by huge debts and hard-to-tame deficits. This issue was exacerbated by the sluggishness of the recovery, because tax collection plunged in light of the lower economic activity, while welfare payments skyrocketed given the higher unemployment rates.
As claimed in the introductory article, the debt crisis raging in the EU has roots both in the shortcomings of the fiscal policies adopted at the national level, and in the lack of a coordinated policy action at the European level. Even if fiscal policy is for sure the main concern of any solution that might be proposed for solving this crisis, it should be clear that it cannot be the only way out. Indeed, the main argument of this series of articles is that there is not enough evidence and enough theoretical support for a unique solution out of the crisis to be found either in the reduction or in the increase of public expenditures.
In the very short-run, say one or two years, policymakers should agree to adopt certain policies directed towards both a greater integration of financial markets and of fiscal policies, and a reduction of the yields on government bonds, achieved through the direct intervention of the ECB on the secondary markets. Governments of the PIIGS should try to stop the impending recessions by reducing the tax burden on the production side of the economy. At the same time, supply-side structural reforms aimed at increasing the ability of businesses to compete on the global arena should be undertaken throughout Europe, pension and health care systems should be reformed with financial sustainability in mind, and labor markets should be rendered less sclerotic while maintaining hard-conquered rights to a fair treatment.
These measures can be justified in light of the arguments put forth by both sides of the debate, and presented in the previous articles: a reduction of public expenditures is likely to be recessionary in the short-term, so governments should not worsen the ongoing recession by rushing to implement spending cuts or new taxes. At the same time, the resulting fiscal deficits cannot be financed by issuing more public debt if the yields are so high: hence, the need for the intervention of the ECB. Structural reforms are needed because Europeans are rapidly ageing and their welfare states seem less and less sustainable from a financial point of view.
We are well aware that this is probably a dreamer’s agenda: it is impossible to devise a mechanism of choice through which all the agents involved in such a process could find it convenient to carry out the needed actions. One of the shortcomings of this policy is its inherent moral hazard: once the intervention of the ECB will be taken for granted, southern countries will have absolutely no incentive to implement tough reforms and cut excessive spending. A case in point is provided by Italy: over the initial part of 2012, Monti’s cabinet has progressively lost its ability to implement tough reforms as the yields on government decreased, and the elections came closer.
To sum up, despite being an incredibly fascinating field of macroeconomics, the economic effects of fiscal policy are hardly clear: more research is needed on the subject, and people on both sides of the debate should be careful in advertising quick fixes for this recession.