Structural Balance Targeting and Output Gap Uncertainty

By Eugen Tereanu, Anita Tuladhar, Alejandro Simone

June 13, 2014

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Eugen Tereanu, Anita Tuladhar, and Alejandro Simone. Structural Balance Targeting and Output Gap Uncertainty, (USA: International Monetary Fund, 2014) accessed December 25, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

Potential output estimation plays a crucial role in conducting fiscal policy based on structural balances. Difficulties in estimating potential output could lead to an erroneous policy stance with a consequent impact on growth. This paper analyzes historical data on revisions of actual and potential growth in the European Union and the implication of these revisions for the measurement of fiscal effort using the cyclically-adjusted primary balance (CAPB). It finds that revisions in output gap estimates were large, at almost 1½ percent of potential GDP on average. Revisions in potential GDP also contributed significantly to revisions in the estimated CAPB, especially during the crisis years. Given these findings and historical correlations, it proposes an indicative rule of thumb for reducing errors in the measurement of fiscal effort by factoring in that about 30 percent of revisions in actual growth capture changes in potential growth. In other words, the standard advice of “letting automatic stabilizers operate fully” in response to a positive/negative growth shocks likely implies a strengthening/weakening of the structural position.

Subject: Budget planning and preparation, Fiscal policy, Fiscal stance, Output gap, Potential output, Production, Production growth, Public financial management (PFM)

Keywords: Budget planning and preparation, Cyclically adjusted balance, Cyclically-adjusted primary balance, Europe, Fiscal policy, Fiscal stance, Output gap, Output gap error, Output gap estimate, Output gap revision, Output gap uncertainty, Potential GDP, Potential output, Potential output gap, Production growth, Structural balance, WP

Publication Details

Pages:

31
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2014/107
Stock No:

WPIEA2014107
ISBN:

9781498305167
ISSN:

1018-5941

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