This paper evaluates policy alternatives to achieve permanent fiscal consolidation in Hungary, based on a general equilibrium calibration. The main finding is that the composition of the consolidation, as determined by the mix of revenue and expenditure measures, has important implications for growth, employment, investment, and other key macroeconomic variables. A reduction in current expenditures yields the smallest GDP contraction in the short term and can increase output in the long term by stimulating labor participation and private investment. On the other end of the spectrum, a consolidation of government investment and corporate taxes are the most costly, as disincentives for private investment result in protracted declines in GDP that compound over time to GDP losses that are multiple times the initial size of the consolidation.

The 2007-09 Great Recession has led to an unprecedented increase in public debt in many countries, triggering substantial fiscal adjustments. What are the distributional consequences of fiscal austerity measures? This is an important policy question. This paper analyzes the effects of fiscal policies on income inequality in a panel of advanced and emerging market economies over the last three decades, complemented by a case study of selected consolidation episodes. The paper shows that fiscal consolidations are likely to raise inequality through various channels including their effects on unemployment. Spending-based consolidations tend to worsen inequality more significantly, relative to tax-based consolidations. The composition of austerity measures also matters: progressive taxation and targeted social benefits and subsidies introduced in the context of a broader decline in spending can help offset some of the adverse distributional impact of consolidation. In addition, fiscal policy can favorably influence long-term trends in both inequality and growth by promoting education and training among low- and middle-income workers.

The paper explores the macroeconomic consequences of fiscal consolidations whose timing and composition are uncertain. Drawing on the evidence in Alesina and Ardagna (2010), we emphasize whether or not the fiscal consolidation is driven by tax rises or expenditure cuts. We find that the composition of the fiscal consolidation, its duration, the monetary policy stance, the level of government debt and expectations over the likelihood and composition of fiscal consolidations all matter in determining the extent to which a given consolidation is expansionary and/or successful in stabilizing government debt.

Productivity dispersion across countries has led to several studies on the determinants of firm level productivity and the role of macroeconomic policies in determining productivity. In this paper, we investigate the effect of fiscal consolidation on firm level productivity in 12 advanced economies by combining an updated dataset of fiscal consolidation measures with firm level productivity. We find that fiscal consolidation (i.e., discretionary tax hikes and spending cuts), is detrimental to firm level productivity in advanced economies. We also find that high levels of fiscal consolidation are particularly harmful to firm level productivity compared to lower levels of fiscal consolidation. Furthermore, we find that tax based fiscal consolidation hinders firm level productivity more compared to spending based fiscal consolidation. This implies that the size and composition of fiscal consolidation matter in understanding the relationship between fiscal consolidation and firm level productivity.

In response to the global financial crisis, governments provided substantial support to the financial and other key sectors. Although this cushioned the adverse effects of the crisis, it is necessary now to articulate a strategy to ensure the sustainability of public finances. This paper discusses the scale and composition of fiscal adjustment that will need to occur once the recovery is securely under way. Although specific country-level circumstances will influence the composition of the adjustment and its political feasibility, in many cases restoring fiscal sustainability will require reforms to reduce spending and increase tax revenue.

Should fiscal consolidations be front-loaded or proceed at a more steady pace, and how does this affect growth? We make an attempt to address this question using a three-step methodology. First, we modify a standard regression of growth on consolidation size to allow speed to affect the multiplier. Second, using the narrative dataset of Devries and others (2011), we construct a new sample of multi-year consolidation episodes for 17 advanced economies over 1978-2009. Third, we develop a novel concept of speed to measure the pace of the consolidation episodes identified in the data. The main empirical finding is that fast episodes have higher multipliers than gradual consolidations. This provides some preliminary support for consolidating at a steady pace, market access and a credible adjustment plan permitting. However, as the sample size is small, identifying mechanisms and testing robustness is difficult, and so our findings should not be interpreted causally.

This paper studies whether changes in the composition of public spending affect the macroeconomic consequences of fiscal consolidations. Results based on a sample of advanced and developing countries show that while fiscal consolidations tend to be contractionary on average, the size of the output fall depends on the behavior of public investment vis-á-vis public consumption during the fiscal adjustment. When public investment is penalized relative to public consumption, and thus its share in public expenditures decreases, a 1 percent of GDP consolidation reduces output by 0.7 percent after two years. In contrast, safeguarding public investment from budget cuts can neutralize the contractionary effects of fiscal adjustments and can even spur output growth over time. The component of GDP that explains the heterogeneity between both types of adjustments the most is private investment. The results inform how fiscal adjustments can be designed to protect economic growth.