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Public deficits and borrowing costs: the missing half of market discipline

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  • Heinemann, Friedrich
  • Winschel, Viktor

Abstract

EMU driven interest rate convergence has led to a significant reduction of borrowing costs for some European governments in the second half of the nineties. The paper deals with the possible consequences for deficit behaviour. Although the impact of interest rates on deficits is a crucial element of the market discipline hypothesis it has widely been neglected in the literature. In the theoretical part, a standard political economic model of budgetary policy (Hettich-Winer) is adapted. It turns out that borrowing costs, measured as the interest-growth-differential, and the level of public debt should be important determinants for public deficits. The econometric part tests these predictions for a panel of OECD countries. The results indicate that there is indeed a significant impact of borrowing costs on the primary surplus. This impact is characterised by a robust asymmetry: Reactions in times of increasing borrowing costs are more pronounced than in times of relaxing conditions.

Suggested Citation

  • Heinemann, Friedrich & Winschel, Viktor, 2001. "Public deficits and borrowing costs: the missing half of market discipline," ZEW Discussion Papers 01-16, ZEW - Leibniz Centre for European Economic Research.
    • Handle: RePEc:zbw:zewdip:5371
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    References listed on IDEAS

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    Cited by:

    1. Nicolas Afflatet & Stephanos Papadamou, 2016. "Public debt and borrowing: Are governments disciplined by financial markets?," Cogent Economics & Finance, Taylor & Francis Journals, vol. 4(1), pages 1225346-122, December.
    2. Markus Leibrecht & Johann Scharler, 2021. "Veto players, market discipline, and structural fiscal consolidations," Public Choice, Springer, vol. 188(3), pages 361-384, September.
    3. Bernoth, Kerstin & von Hagen, Jürgen & Schuknecht, Ludger, 2012. "Sovereign risk premiums in the European government bond market," Journal of International Money and Finance, Elsevier, vol. 31(5), pages 975-995.
    4. Afflatet Nicolas, 2019. "Der Fiskalpakt: Schlüssel für dauerhaft solide Finanzen in der Eurozone?," Zeitschrift für Wirtschaftspolitik, De Gruyter, vol. 68(2), pages 183-201, August.
    5. repec:cii:cepiei:2015-q1-141-4 is not listed on IDEAS
    6. Philipp Paulus, 2006. "Brüssel, Frankfurt oder Basel - Wo muss das Problem steigender Staatsschulden in der Europäischen Währungsunion gelöst werden?," Otto-Wolff-Institut Discussion Paper Series 01/2006, Otto-Wolff-Institut für Wirtschaftsordnung, Köln, Deutschland.
    7. David Howarth & Lucia Quaglia, 2015. "The political economy of the euro area's sovereign debt crisis: introduction to the special issue of the Review of International Political Economy," Review of International Political Economy, Taylor & Francis Journals, vol. 22(3), pages 457-484, June.
    8. Gianluca Cafiso & Roberto Cellini, 2022. "Market-Induced Fiscal Discipline in Europe," Italian Economic Journal: A Continuation of Rivista Italiana degli Economisti and Giornale degli Economisti, Springer;Società Italiana degli Economisti (Italian Economic Association), vol. 8(2), pages 259-287, July.
    9. Friedrich Heinemann, 2006. "Factor mobility, government debt and the decline in public investment," International Economics and Economic Policy, Springer, vol. 3(1), pages 11-26, April.
    10. Philipp Paulus, 2004. "The fiscal stability impact of monetary unions - looking beneath the Stability Pact debate," Otto-Wolff-Institut Discussion Paper Series 05/2004, Otto-Wolff-Institut für Wirtschaftsordnung, Köln, Deutschland.

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    More about this item

    Keywords

    market discipline; borrowing costs; EMU; public debt; government deficits;
    All these keywords.

    JEL classification:

    • H62 - Public Economics - - National Budget, Deficit, and Debt - - - Deficit; Surplus

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