The Political Economy of Fiscal Deficits: Empirical Evidence from EU Countries

Fiscal policy has started to regain a lost attention in recent years, both in the academic research and in the government policy agendas. The reasons is obvious, primarily in the European context. Financial, economic and subsequent debt crises have hit the EU economies especially hard and their recovery seems to be rather gradual. The European economies still suffer from the problem of over-indebtedness and the problem of excessive budget deficits. Therefore, the aim of the paper is to evaluate basic economic, institutional and political determinants of budget deficits in the European Union countries. We use an unbalanced cross-country time series data set, comprising all 28 EU countries over the period 1995-2016. Fiscal policy seems to play a stabilizing role, but its counter-cyclical reactions are significantly stronger in recessions, while it does not react to current inflation and changes in the government bond yields. Moreover, some political and institutional variables play statistically significant role as well and appear to be important determinants of fiscal deficits.