85th International Atlantic Economic Conference

March 14 - 17, 2018 | London, United Kingdom

The confidence effect on output

Friday, 16 March 2018: 3:20 PM
Helena Sanz-Morales, MSc , Vrije University-Brussels, Brussels, Belgium
Peter Claeys, Dr. , Vrije University-Brussels, Brussels, Belgium
The role of business and household confidence has been stressed as a key factor regarding the hypothesis that fiscal consolidations can exert a positive impact in economic growth since Feldstein (1982) stated that "a rise in government spending in one year may cause the public to expect higher spending in future years and therefore higher taxes to finance that spending." This argument was further developed by Giavazzi and Pagano (1990) who highlighted the "expectational view of fiscal policy" in opposition to the Keynesian reasoning of negative multipliers. Despite this long-term debate, the number of quantitative studies addressing this topic not just at a theoretical level but analyzing empirically the role of confidence in the transmission of fiscal shocks has been paid little attention. This paper analyses the roles of confidence in the transmission of fiscal consolidations into private activity. The most recent attempt to characterize fiscal consolidation has been developed by Alesina, Favero, and Giavazzi (2015) changing the focus from yearly consolidations to multi-year consolidation plans. The novelty in this paper consists in separating the time when the consolidation is announced from the time when the consolidation is implemented. The years of data that was analyzed is 1985-2012. Using this new paradigm, we intend to determine the role played by expectations in determining the effect of fiscal retrenchments when changing the focus from implementation to announcement time. When dealing with the confidence indicators it is necessary to take into account that they are designed to track specific macroeconomic variables. The joint harmonized Program of Business and Consumer Surveys state that the goal of the confidence indicators is to track cyclical movements in specific sectors. In this paper we link the confidence indexes with the macroeconomic variable that they are designed to track.