The Swedish Fiscal policy 1999-2004 compared with the EMU states

Index

1 Introduction

2 The Swedish Model and the development/changes of the 1990s

3 Institutional framework

4 Definition of fiscal policy

5 Sweden’s and EMU fiscal policy between 1999-2004
5.1 Description of the data and sources and what kind of methods I use
5.2 Analysis of the Swedish fiscal policy development 1999-2004
5.3 Explanation of the EMU Rules for the fiscal policy (Stability and Growth Pact)
5.4 Analysis of the EMU member states fiscal policy development between 1999-2004
5.5 Comparison

6 Conclusion

7 Discussion

8 Appendix

9 References

The Swedish Fiscal policy 1999-2004 compared with the EMU states.

1 Introduction

I choose the topic “The Swedish Fiscal policy 1999-2004 compared with the EMU states.” Because I want to find out whether the Swedish fiscal policy was counter-cycle compared to the EMU states^[1] or not. The EMU states have the Stability and Growth Pact (SGP) which set rules for their fiscal policies the pact was introduced in 1999 with the start of the EURO in 1999 began a change and the last actual data I found was 2004 that’s why I choose this period.

Among other things I want to figure out if the SGP has a negative effect on the fiscal policy in a recession.

I start the paper with presenting the so called “Swedish Model” and the changes and development of the 1990s. Then I will present the Institutional framework in Sweden and the Budget process.

After this I will present a definition of fiscal policy and start with the examination of the Swedish fiscal policy 1999-2004 present the methods I use and analysis the period. Then I compare the Swedish development with the EMU states and try to find out if the SGP has a pro-cyclical effect on the fiscal policy this would mean for example in a recession that the downtown takes longer and the economic fluctuation is stronger than without the SGP.

In the end I present my conclusion and have a brief discussion.

In this paper I will not cover aspects of tax development, labour market and monetary policies because of the lack of space.

2 The Swedish Model and the development/changes of the 1990s

The term “Swedish Model” is often used to describe how the industrial relations are regulated and the centralised organisation of Swedish society.

Characteristic for the “Swedish Model” is the low unemployment rate, equality in the society and also equality between men and women. Sweden has a strong regulated economy with a very large public sector^[2] and high taxes, which finance the public sector.^[3] Other characteristics are the broad social consensus on the position of the social democratic welfare state and a stable party government^[4] operating with a culture of consensus and compromise.

The “Swedish Model” has two main goals, the primary goal is full employment, and the secondary is equality.^[5]

Full employment should be achieved through an active intervening state and the social compromise between the labour and capital^[6].

Between 1990-1993 the Swedish GDP declined by 5% and an unemployment crisis occurred so the unemployment increased from 1.5% (1990) to 8% (1993)^[7].

This crisis of the early 1990s was the biggest crisis since the depression years of the 1930s.

The decision to devalue the krona and to let the krona float free in late 1992 improved the competitiveness of the Swedish industry.

This crisis has forced the Swedish Welfare state to introduce for example in the public sector major cutbacks both in public consumption and public employment. The private sector couldn’t absorb all which the public sector set free so the unemployment did not change greatly between 1994-1997 but after this period till 2001 employment rose significantly.

Also for fiscal policies changes occurred in the 1990s. So was the deficit in the public finances 12% of the GDP in 1993.

This lead to rising national debt and the financial markets react by rising interest rates because the confidence in the krona weakened significantly.

The Social Democratic Party which came into office in 1994 introduces a 4 year austerity program with the goal to bring the Swedish public finances into balance in 1998 which were successful archived after 1998.

In the mid 1990s Sweden introduced a new budget process and two budget goals (the expenditure ceilings and the saving targets). “Over an economic cycle the public sector finances are expected to show a surplus equivalent to 2% of GDP.”^[8]

Besides this also structural reforms have taken place in the early 1990s a tax reform to stimulate work and savings and the Competition Act introduced in 1993 which should bring more competition in the Swedish markets.

During the 1990s a number of services and goods were deregulated and/or privatized in Sweden for example in the telecommunication, transportation and electricity sectors of the economy.

How substantial were the changes of the Swedish Model in the 1990s?

As Joakim Palme argues that ‘…it is difficult to find evidence of any substantial change of the model in Sweden in the 1990s… some changes marking a departure from the Swedish model may be noted.’^[9] He thinks that most of the changes are only partial and not a model shift, so the changes which have taken place in the 1990s don’t change the fundamental principles of Sweden’s social welfare system.

Also Anders Lindbom^[10] argues that the cutbacks and reforms of the Swedish Welfare state in the 1990s are having not dismantled the Swedish Welfare state.^[11]

3 Institutional framework

The principles and rules for the budget are laid down in the Instrument of Government, the Riksdag Act and a special Budget Act.

In the 1990s the process for the determination of the central government budget was reformed and strengthened in a lot of respects. Changes were made in the control and steering mechanisms on the implementation of the budget by various government agencies, how the Government prepares the budget and in the way how the Riksdag approves and considers the budget. These reforms enable the Riksdag to take a more general and coordinated approach to the budget, focusing less on details and more on aggregates.

Three years ahead is determined the level of the central government expenditures by setting aggregated expenditures ceilings. This expenditure ceiling provides the Riksdag and the Government with better control instruments over the expenditures. Also the fact that the budget operates over a three-year cycle allows greater emphasis on making decisions with long-term perspectives.

In the expenditures ceilings is also the old-age pension scheme included which is not part of the central government budget and the expenditures ceilings includes a little budget buffer provides scope for meetings unforeseen happenings or for taking further spending decisions without exceeding the ceilings.

The Riksdag decision on the expenditure ceilings is a so-called guiding decision, which means that the decision is not legally binding.

Each year the Riksdag’s work on the budget begins with a proposal from the Government. The Government submit this first proposal not later than 15 April, the so called Spring Fiscal Policy Bill with guidelines for Sweden’s economic policy and budget policy for the forthcoming year. The Riksdag adopts a decision on the Spring Fiscal Policy Bill in June.

All Members of the Riksdag are free to submit counter-proposals to the Government’s proposals. Before the Chamber of the Riksdag takes a decision on the central government budget, the proposals contained in the budget need to be considered by various parliamentary committees. Especially the Committee on Finance has an important role in this process.

The Government presents the Budget Bill to the Riksdag not later than the 20 September. The Budget Bill contains the Government’s proposals for the central government budget for the next year. Until the end of November the Riksdag has to determine the total limit for central government expenditures, as well as the limits for each expenditure area. In mid-December the Riksdag decides how the money for each expenditure area is to be allocated and also takes a decision regarding the estimated of central government revenue. The Budget Bill also contains proposals on how the government activities in different areas are to be run.

In some cases the things do not go as the Government and Riksdag had expected. For example an agency needs more money than expected. In such cases, the Riksdag can amend the central government budget by proposing additional money in the budget. This is known as a supplementary budget, and the Government submits its proposed changes in April and September.

The surplus target of a 2 per cent surplus for the public sector over the business cycle is in the debate of every budget. The National Institute of Economic Research (NIER) comments on the target and helps the public to understand it. This keeps transparency and the government accountable in the political sense and also in relation to the target agreed upon.

4 Definition of fiscal policy

“Fiscal policy comprises all policy measures related to government budget. At the aggregate level this amounts to government spending and raising government revenue by levying taxes.”^[12]

Fiscal policy influences saving, investment, and growth in the long-run. In the short-run, however, the primary effect of fiscal policy is on the aggregate demand for goods and services.

“Many components of government budgets are affected by the macroeconomic situation in ways that operate to smooth the business cycle, i.e. they act as “automatic stabilisers”. For example, in a recession fewer taxes are collected, which operates to support private incomes and damps the adverse movements in aggregate demand. Conversely, during a boom more taxes are collected, counteracting the expansion in aggregate demand. This stabilising property is evidently stronger if the tax system is more progressive. Another automatic fiscal stabiliser is the unemployment insurance system: in a downswing the growing payment of unemployment benefits supports demand and vice versa in an upswing.”^[13]

These automatic fiscal stabilisers have worked to damp cyclical fluctuations over the 1990s as simulations shows.^[14]

If the automatic stabilisers are overridden by discretionary adjustments, their impact will be neutralised. On the other hand, if they are reinforced by discretionary adjustment, the overall impulse will be stronger.

In each country the impact of automatic fiscal stabilisers varies depends on how progressive the taxations system is.

However the impact of the fiscal policy on the role of automatic fiscal stabilisers is not the aim of the paper and will not be included in the following analyse.^[15]

In the Keynesian economic theory the fiscal policy plays a crucial role in cushioning the effects of cyclical downswing in the economy compensating for insufficient private demand. The government stimulate the economy by so called active stabilization policy, changes in attitudes by households and firms shift aggregate demand; if the government does not respond, the result is undesirable and unnecessary fluctuations in output and employment.

If the government tried to balance its budget during a recession, it would have to raise taxes or cut spending at a time of high unemployment. Such policy would tend to depress aggregate demand at precisely the time it needed to be stimulated and, therefore, would tend to increase the magnitude of economic fluctuations.

Those discretionary decision of the active stabilization policy demands that the measures from the downturn stimulation of the economy, for example the money which the government put in the economy, will be counter financed in the upturn e.g. through raising taxes. Otherwise over the economic cycle the public debt will raise with all the negative effects for the economy.

According to critics of active stabilization policy, monetary and fiscal policy work with such long lags that attempts at stabilizing the economy often end up being destabilizing.

The problem is that the political actors tend to act on their own utility maximising principle means they release a political cycle for example putting some extra money in the economy independent of the business cycle situation to win elections. Many countries have experienced that a lack of a long-term perspective and rules tends to make stabilisation policy systematically too expansionary. Examples are the developments in Sweden in the 1970s and 1980s, and Germany’s situation in the 1990s.

The idea behind the Stability and Growth Pact is to have rules for the political actors to prevent them to follow the pushes of interest groups for example to run an expansive expenditure programmes. Another aspect is to have long-term targets, because this will stabilise the expectation of the private subjects and give the voters better criteria’s to judge and criticize the political actors.

[...]

^[1] European Monetary Union Member States: Finland, Ireland, Germany, France, Spain, Portugal, Greece, Italy, Austria, Netherlands, Belgium, Luxembourg

^[2] ’…a very large part of the productions of services is publicly owned and managed. Health and social care, education and child care are provided almost exclusively by central or local government agencies.’ Olof Petersson (1994) p.38

^[3] Bertram, Silverman (1998) p.72

^[4] The Social Democratic Party is in power for an unbroken period between 1932 and 1975.

^[5] Bertram, Silverman (1998) p.72

^[6] The historic basic compromise between labour and capital was achieved in 1938 in the so called ‘Saltsjöbaden Agreement’ Olof Petersson (1994) p.26

^[7] cf. “Basic Fact Sheet Sweden” on www.Sweden.se

^[8] cf. Fact Sheet “Swedish Economy” p.4, on www.Sweden.se

^[9] Palme, Joakim (2002) p.5

^[10] Lindbom, Anders (2001) p.171-193

^[11] Lindbom, Anders (2001) p.187

^[12] Gärtner, Manfred (2003) p.78

^[13] Van den Noord, P. (2000) p.4

^[14] Van den Noord, P. (2000) p.9

^[15] see Van den Noord, P. (2000) for further information