j.c.bluedorn: the twin budget and trade balances
TRANSCRIPT
Chapter 4
Separated at Birth?The Twin Budget and Trade Balances
Abdul Abiad, John Bluedorn,Jaime Guajardo, Michael Kumhof,
and Daniel Leigh
Road Map
Motivation: fiscal adjustment is coming
Questions:
How much does fiscal policy affect the current account?
In what ways?
How do current conditions (simultaneous tightening; constrained MP, fixed ER for some) affect this link?
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How much will planned fiscal adjustment affect current accounts around the world?
Existing studies
No clear consensus on effect of fiscal balance on CA
— Many studies find small effect (0.1 – 0.4)
Issues with conventional approaches that use FB or CAPB:
— Influence of nonpolicy factors (e.g., asset price booms)
— Fiscal policy change can be a response to business cycle
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— Fiscal policy change can be a response to CA developments
Our approach
Narrative approach à la Romer and Romer (2010)
Use dataset (WP/11/128) of action-based fiscal consolidationsUse dataset (WP/11/128) of action-based fiscal consolidations
(earlier version: Oct 2010 WEO)
• For 17 OECD countries from 1978-2009, identify fiscal consolidations motivated by a desire to reduce the budget deficit.
• Enlarge dataset to include fiscal expansions.
Romer and Romer (2010) type regression:
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Complement with GIMF analysis
Key result: Fiscal policy changes have a large and long-lasting effect on external balances
Effect on the Current Account of a 1 Percent of GDP Fiscal Consolidation
0.8
Action-based approach Conventional approach
0.4
0.6
0.8
Perce
-0.2
0.0
0.2
ent of GD
P
-0.4-1 0 1 2 3 4 5
Source: IMF staff calculations
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Source: IMF staff calculations.Note: X-axis units are years, where t = 0 denotes the year of consolidation. Dashed lines indicate the 90 percent confidence interval around the point estimate. The conventional approach shown here uses changes in the cyclically adjusted primary balance as the measure of change in fiscal policy. The results are broadly similar if the actual change in the overall fiscal balance is used instead. The effect of a fiscal expansion would be the reverse of the response to a consolidation
How:Contraction in economic activity y
1.5Real Domestic Demand1.5 Real Output
Effect on Economic Activity of a 1 Percent of GDP Fiscal Consolidation
Action-based approach Conventional approach
0.5
1.0
0.5
1.0
p
Percent
-0.5
0.0
-0.5
0.0
rcentPerc
-1.5
-1.0
-1 0 1 2 3 4 5-1.5
-1.0
-1 0 1 2 3 4 5
6
Source: IMF staff calculations.Note: X-axis units are years, where t = 0 denotes the year of consolidation. Dashed lines indicate the 90 percent confidence interval around the point estimate. The conventional approach shown here uses changes in the cyclically adjusted primary balance as the measure of change in fiscal policy. The results are broadly similar if the actual change in the overall fiscalbalance is used instead. The effect of a fiscal expansion would be the reverse of the response to a consolidation.
What happens to Saving and Investment?Effects on Saving and Investment of a 1 Percent of GDP Fiscal Consolidation
0.6Conventional Approach0.6 Action-Based Approach
Effects on Saving and Investment of a 1 Percent of GDP Fiscal Consolidation
Saving Investment
0.2
0.4
pp
0.2
0.4
pp
Perceof
GD
P
0 4
-0.2
0.0
0 4
-0.2
0.0
nt of GD
PPerc
ent o
f
-0.6
-0.4
-1 0 1 2 3 4 5-0.6
-0.4
-1 0 1 2 3 4 5
Source: IMF staff calculations.
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Note: X-axis units are years, where t = 0 denotes the year of consolidation. Dashed lines indicate the 90 percent confidence interval around the point estimate. The conventional approach shown here uses changes in the cyclically adjusted primary balance as the measure of change in fiscal policy. The results are broadly similar if the actual change in the overall fiscal balance is used instead. Fiscal policy changes are action-based. The effect of a fiscal expansion would be the reverse of the response to a consolidation.
What happens to Exports and Imports?
Effects on Export and Import Volumes of a 1 Percent of GDP Fiscal Consolidation
2
Export volume Import volume
1
2
Perc
-1
0
cent
-2-1 0 1 2 3 4 5
8
Source: IMF staff calculations.Note: X-axis units are years, where t = 0 denotes the year of consolidation. Dashed lines indicate the 90 percent confidence interval around the point estimate. Fiscal policy changes are action-based. The effect of a fiscal expansion would be the reverse of the response to a consolidation.
What happens to Exchange Rates and Relative Prices?
Effects on Exchange Rates and Relative Prices of a 1 Percent of GDP Fiscal Consolidation
0 5
0.0
0.5
1.0 Real Exchange Rate(percent)
Effects on Exchange Rates and Relative Prices of a 1 Percent of GDP Fiscal Consolidation
-0 5
0.0
0.5
1.0Nominal Exchange Rate(percent)
-2.0
-1.5
-1.0
-0.5
-1 0 1 2 3 4 5
-2.0
-1.5
-1.0
0.5
-1 0 1 2 3 4 5
-0.5
0.0
0.5
1.0 Domestic Relative Price(percent)
-0.5
0.0
0.5
1.0Unit Labor cost(percent)
-2.0
-1.5
-1.0
-1 0 1 2 3 4 5
-2.0
-1.5
-1.0
-1 0 1 2 3 4 5
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1 0 1 2 3 4 5Source: IMF staff calculations.Note: X-axis units are years, where t = 0 denotes the year of consolidation. Dashed lines indicate the 90 percent confidence interval around the point estimate. The nominal and real exchange rates are indices of trade-weighted bilateral exchange rates (effective exchange rates). The domestic relative price is the difference between home and foreign price levels. Fiscal policy changes are action-based. The effect of a fiscal expansion would be the reverse of the response to a consolidation.
Constrained Monetary Policy/ER, and Simultaneous Tightening
Effects of a 1 Percent of GDP Fiscal Consolidation: GIMF Simulations
Unconstrained monetary policy Constrained monetary policy
0 5
1.0
1.5Current Account(percent of GDP)
Global action
1 5
-1.0
-0.5
0.0
0.5
1.0
2.0 Real GDP(percent)
-1.5-1 0 1 2 3 4 5
1.0
2.0
3.0Domestic Relative Price(percent)
-3 0
-2.0
-1.0
0.0
-3 0
-2.0
-1.0
0.0
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Source: IMF staff calculations.Note: X-axis units are years, where t = 0 denotes the year of a 1 percent of GDP fiscal consolidation. The responses in the figures are model simulations for Canada from the IMF’s Global Integrated Monetary and Fiscal Model (GIMF).
3.0-1 0 1 2 3 4 5
3.0-1 0 1 2 3 4 5
Planned fiscal adjustments: Results from GIMF
Change in the Structural Primary Balance
Planned Fiscal Adjustment and Its Current Account Impact: GIMF Simulations
Long-Term Effect of Planned Fiscal Adjustment on the Current Account
4
5
6
3
4(2010-16)
j(2010 onward)
Exit from stimulusPermanent measures
Domestic action onlyGlobal action
2
3
4
1
2
Perc
ent o
f GD
P Percent of GD
P
1
0
1
2
-1
0
P
-1USA JPN DEU EUR EMA ROW
-2USA JPN DEU EUR EMA ROW
Source: IMF staff calculations.Note: DEU: Germany; EMA: emerging Asia; EUR: euro area excluding Germany; JPN: Japan; ROW: rest of the world; USA: United States.
Conclusions
External balances adjust substantially in response to fiscal adjustment
l d d l h lIt is not just lower demand resulting in import compression; exports rise as the real exchange rate tends to depreciate following fiscal tightening
If i l h i fi d li i i d l dj iIf nominal exchange rate is fixed or monetary policy is constrained, external adjustment is just as large, but more painful
Current fiscal plans will contribute to
• Lowering euro area imbalances• Lowering emerging Asia’s surplus
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Lowering emerging Asia s surplus • Widening the US CA deficit
Appendix: Public and Private S and I
Effects on Public and Private Saving and Investment of a 1 Percent of GDP Fiscal Consolidation
Public saving Public investment Private saving Private investment
0.5
1.0Private
0.5
1.0 Public
PerP
0.0
0 5
0.0
0 5 rcent of GD
PPe
rcen
t of G
DP
-0.5-1 0 1 2 3 4 5
-0.5-1 0 1 2 3 4 5
13
Source: IMF staff calculations.Note: X-axis units are years, where t = 0 denotes the year of consolidation. Dashed lines indicate the 90 percent confidence interval around the point estimate. Fiscal policy changes are action-based. The effect of a fiscal expansion would be the reverse of the response to a consolidation.
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