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Back to fiscal consolidation in Europe and its dual tradeoff : now or later, through spending cuts or tax hikes ?

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Abstract

The European consolidation process has raised a few questions. The most frequent one has been how large are the costs of consolidation and has the Eurozone fiscal stance improved or achieved debt sustainability? Second, do these costs and sustainability depend on the composition (tax vs. spending) of the consolidation process? Third, do risk premia matter? Fourth, which of the two following strategies, backloading vs. frontloading, is superior to the other? The aim of the paper is to shed light on these questions using a multi-country reduced-form model. It considers explicitly that the Eurozone member states are facing a dual trade-off, first between labor market outcomes of consolidation and public debt dynamics and, second, between reducing public expenditures and increasing taxes. The main conclusion is that a tax-based backloaded consolidation is superior to all other strategies, be they spending-based or frontloaded, or both. Introducing risk premia endogenously does not alter the conclusion.

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hal-01143545 , version 1 (17-04-2015)

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Christophe Blot, Jérôme Creel, Bruno Ducoudre, Xavier Timbeau. Back to fiscal consolidation in Europe and its dual tradeoff : now or later, through spending cuts or tax hikes ?. 2015. ⟨hal-01143545⟩
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