Macroeconomic effects of fiscal policy in the European Union: a GVAR model

What are the consequences of a fiscal policy measure implemented in a Member State on the rest of the European Union (EU)? Should or should not EU countries coordinate their fiscal policies? Given this starting point, we study the economic consequences of shocks to fiscal variables in the EU countries from both domestic and global perspectives. With that objective in mind, we specify and estimate a global vector autoregressive model (GVAR) for fourteen countries of the former EU15 and the United States (USA), using quarterly macroeconomic, monetary and fiscal data from 1978 to 2009. Unlike other GVAR models with fiscal variables, in our study we consider total public receipts and total public expenditure separately, and model not only the euro area economies but also all countries of the former EU15 (except Luxembourg) and the USA. The results of our simulations show that the responses of real GDP to a negative (positive) domestic/global shock to total public expenditure (total public receipts) seem to be negative (positive) for the analyzed economies. The effects of domestic shocks would be larger in the country of origin of the shock, while their spillover effects would be limited. The effects of global shocks reveal a remarkable degree of similarity in the cyclical behavior of the European economies. As policy recommendations, we suggest boosting the slow process of coordination of fiscal actions in the EU in order to avoid unwanted economic consequences.