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Adjusting the budget balance for the business cycle: the EU methodology

November 2014

DOI:10.2765/71756

Authors:

Caterina Astarita

University of Naples Federico II

Gilles Mourre

European Commission

The cyclically-adjusted budget balance (CAB) is the backbone of the EU framework of fiscal surveillance, both in its preventive and corrective arms. The concept corresponds to the budget balance prevailing if the economy was running at potential. After correcting for the one-off and temporary measures, it is called structural budget balance and used to assess the fiscal policy stance. This paper presents the EU methodology for computing the CAB. It derives the new value of the budgetary semi-elasticities following the recent revision of individual revenue and expenditure elasticities by the OECD and shows the effect of the revised elasticities on the CAB.

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EUROPEAN

ECONOMY

Economic Papers 536 | November 2014

Economic an d

Financial Aairs

ISSN 1725-3187 (online)

ISSN 1016-8060 (print)

Adjusting the budget balance for the business cycle:

the EU methodology

Gilles Mourre, Caterina Astarita, Savina Princen

Economic Papers are written by the staff of the Directorate-General for Economic and Financial

Affairs, or by experts working in association with them. The Papers are intended to increase

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those of the European Commission.

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doi:10.2765/71756 (online) doi:10.2765/81338 (print)

Reproduction is authorised provided the source is acknowledged.

European Commission

Directorate-General for Economic and Financial Affairs

Adjusting the budget balance for the

business cycle: the EU methodology

Gilles Mourre, Caterina Astarita and Savina Princen

Abstract

The cyclically-adjusted budget balance (CAB) is the backbone of the EU framework of fiscal

surveillance, both in its preventive and corrective arms. The concept corresponds to the budget

balance prevailing if the economy was running at potential. After correcting for the one-off and

temporary measures, it is called structural budget balance and used to assess the fiscal policy

stance. This paper presents the EU methodology for computing the CAB. It derives the new value

of the budgetary semi-elasticities following the recent revision of individual revenue and

expenditure elasticities by the OECD and shows the effect of the revised elasticities on the CAB.

JEL Classification: E32, E61, H3, H6.

Keywords: cyclically-adjusted budget balance (CAB), structural balance, budgetary semi-

elasticity, revenue and expenditure elasticities, EU fiscal surveillance, Adjusting the budget

balance for the business cycle: the EU methodology, Mourre, Astarita, Princen.

Corresponding author: Gilles Mourre, European Commission, Directorate General for Economic and

Financial Affairs, Gilles.Mourre@ec.europa.eu.

EUROPEAN ECONOMY Economic Papers 536

ACKNOWLEDGEMENTS

The authors acknowledge the numerous constructive comments received at the Output Gap Working

Group (OGWG), which approved the new calculation methodology at technical level before formal

endorsement by the Economic Policy Committee on 15 September 2014. They thank in particular Marco

Cacciotti, Troels Kromand Danielsen, László Dózsa, Erik Floor, Sotia Hajispyrou, Marko Glazar, Michal

Havlát, Kamran Kazemzadeh, Suzanne Kok, Lukáš Lang, Klas-Göran Larsson, Katja Lautar, Paula

Letunić, John McCarthy, Godwin Mifsud, Jonas Norlin, Michael Lund Nielsen, Harry Partouche, José

Carlos Azevedo Pereira, Robert Plachta, David Prušvic, Lukas Reiss, Yuliya Tsoneva, Margus Tuvikene,

Christian Valenduc, Artūrs Valujevs and Laura Weymes for their inputs or comments provided as OGWG

delegates. The authors are also thankful to Igor Lebrun (OGWG Chair) and Jens Larsen (OGWG

Secretariat) for their valuable support. The authors are grateful for comments and advice received from

Yvan Guillemette (OECD) and Lucio Pench (Directorate-General for Economic and Financial Affairs).

The views expressed in this paper are those of the authors and do not necessarily represent the views of

the European Commission or DG ECFIN.

Contact information: Gilles.Mourre@ec.europa.eu.

CONTENTS

Executive summary 5

1. Introduction 7

2. Theoretical framework for computing the cyclically-adjusted

budget balance 9

2.1 Budgetary semi-elasticity: concept and computation 9

2.2 Weighting parameters 11

3. Revision of individual revenue and expenditure elasticities 13

3.1 Original OECD estimations of individual elasticities used by the EU 13

3.2 Main methodological innovations recently introduced by the OECD 14

3.3 Estimation results 17

4. Computing the budgetary semi-elasticity and the

cyclically-adjusted budget balance 21

4.1 Revised budgetary semi-elasticities 21

4.2 Impact of revised elasticities on the cyclically-adjusted budget balance 23

References 27

Appendix 1 Steps to derive the semi-elasticities of the budget balance to the

output gap and data sources 29

Appendix 2 Additional information on elasticities of revenue to base 32

LIST OF TABLES

3.1. Main refinements and methodological innovations per revenue and expenditure category 15

3.2. Difference between 2014 and 2005 individual elasticities of revenue and expenditure

categories with respect to the output gap 18

3.3. Contributions of individual categories to the differences in budgetary semi-elasticities 19

3.4. Revenue (expenditure)-to-base and base-to-output gap elasticities of revenue and

expenditure categories 20

4.1. Impact of the revised individual elasticities on the budgetary semi-elasticities and their

components 21

4.2. Impact of revised individual elasticities on the cyclically-adjusted budget balance

1. Introduction

(2011-15) 24

4.3. Impact of revised individual elasticities on the annual variation in the cyclically-adjusted

budget balance (2011-15) 25

A.1. Elasticities of individual revenue and expenditure categories 29

A.2. Shares of revenue categories (% of total revenues) and shares of expenditure categories

(% of total expenditure), average 2002-2011 30

A.3. Decomposition of the semi-elasticity of budget balance to output gap 31

A.4. Construction of revenue and expenditure bases 32

A.5 Elasticities of revenue with respect to their base per income item for personal income taxes

and social security contributions 32

LIST OF GRAPHS

4.1. Budgetary semi-elasticities based on former and revised individual elasticities 22

4.2. The cyclically-adjusted budget balance in 2014 using former and revised individual

elasticities 23

4.3. Annual variation of the cyclically-adjusted budget balance in 2014 using former and revised

individual elasticities 24

4.4. Cyclical components of the budget balance in 2013 using former and revised individual

elasticities 25

4.5. Cyclical components of the budget balance in 2014 using former and revised individual

elasticities 26

EXECUTIVE SUMMARY

The importance of the cyclically-adjusted budget balance (CAB) and of the structural balance (CAB

minus one-offs and temporary measures) was restated forcefully with the reform of the European

economic governance since 2011. This reform alongside the dramatic changes in economic data brought

about by the economic and financial crisis underscored the need of making necessary technical

improvements. In this context, the Commission launched a two-tiered process to improve the CAB

methodology in early 2012.

The first tier of revision consisted in using a budgetary semi-elasticity (rather than a budgetary

sensitivity) as cyclical adjustment parameter and of updating all weighting parameters used in the CAB

(see Mourre et al., 2013) for technical details). This first tier of revision has been fully up and running

since the Commission 2013 Winter Forecast in February 2013. The second tier of revision consisted in

updating the decade-old individual elasticities with respect to the output gap, which were calculated by

the OECD (for OECD countries) and by the Commission (for EU Member States not part of the OECD).

The Commission asked the OECD to revise their estimates of country-specific elasticities underlying the

CAB in order to (i) extend the exercise to cover all EU Member States, (ii) update the individual

elasticities based on most recent datasets and tax codes and (iii) improve the methodology where needed

(see OECD, 2014) for technical explanations and detailed results). This work was conducted with the

guidance of the Commission and under the supervision of EU Member State representatives (in the

framework of the Output Gap Working Group attached to the EU's Economic Policy Committee), who

provided suggestions and inputs to the exercise. This second tier of revision was completed in September

2014 and applied in the Commission 2014 Autumn Forecast released in November 2014.

This paper first recalls the main lines of the revision of individual revenue and expenditure elasticities by

the OECD:

• The OECD continued to apply the two-step methodology used in Girouard and André (2005) to

compute individual revenue and expenditure elasticities: it estimates separately (i) the elasticity of

individual revenue (expenditure) categories with respect to their base and (ii) the elasticity of the

revenue (expenditure) base to the output gap. Moreover, some assumptions used by the OECD in the

past were retained. In particular, the elasticity of indirect tax revenue to the output gap was still

assumed unitary (with one motivated exception) given robustness and data issues associated with

empirical estimates country by country. This assumption was also in line with panel estimates.

Moreover, the elasticity of public expenditures other than those related to unemployment was kept to

zero.

• The OECD improved the 2005 methodology by introducing some necessary refinements and useful

methodological innovations. Notably, the elasticities were estimated on more disaggregated data for

personal income taxes (wages and salaries, self-employment income, capital income) and for social

security contributions (employees' and employers' contributions). The elasticities for corporate

income taxes were estimated empirically (instead of being based on assumptions). The zero elasticity

assumption for non-tax revenue was backed by empirical estimations. The elasticities of bases to

output gap were estimated using the revised EU output gaps, based on a production function

methodology and including recent NAWRU estimates for the non-cyclical part of unemployment, as

explained in Havik et al. (2014).

The paper then thoroughly analyses the effect of the revision of individual revenue and expenditure

elasticities on the cyclical adjustment of the budget balance (CAB methodology), used to compute the

structural balance employed in EU fiscal surveillance. The following insights could be drawn:

Executive summary

• Revisions in individual revenue and expenditure elasticities can be substantial at country level but do

not follow a clear pattern across Member States, except for corporate income taxes, the revised

elasticities of which seem to be higher than the former ones in most countries. The elasticities of

unemployment-related expenditure and corporate income taxation show the largest revisions on

average (in absolute value). However, given the small share of unemployment-related expenditure in

total expenditure and of corporate income taxation in total revenue, they are not the main driver of

the budgetary semi-elasticities, which are mainly steered by personal income taxes. In the majority of

Member States (18 out of 28), revisions in individual revenue and expenditure elasticities partly

offset each other.

• Overall, the revisions of individual revenue and expenditure elasticities have a fairly limited impact

on budgetary semi-elasticities. The difference between the budgetary semi-elasticities based on

revised elasticities and those based on 2005 elasticities varies from -0.02 to 0.15 across countries.

• The budgetary semi-elasticities average out to 0.50 for the EU and range from 0.31 to 0.65 across

Member States, suggesting significant cross-country differences in the cyclicality of the budget

balance.

• The average of the semi-elasticities for revenue is close to zero, ranging from -0.08 to 0.07, since

revenue is broadly as cyclical as GDP, except for non-tax revenue. Therefore, the revenue-to-GDP

ratio moves only slowly with the business cycle. In contrast, the semi-elasticities for expenditure

average out to -0.50, ranging from -0.38 to -0.62, which accounts for the larger part of the disparity

in the budgetary semi-elasticity across Member States.

• Revisions of individual revenue and expenditure elasticities do not substantially alter the level of the

CAB on average and in most countries for most years. However, for specific countries in specific

years, where the level of the output gap is large, the revision of the cyclical components can be non-

negligible. The impact of the revisions on the annual variation of the CAB is even smaller in general.

The appendices present step by step how the budgetary semi-elasticity is derived from the revised

individual elasticities and the weighting parameters (updated in 2013 as part of the first tier of the

revision of the CAB methodology) to ensure transparency and replicability. They also indicate the data

sources and other background information on the elasticities of individual revenues with respect to their

base.

1. INTRODUCTION

In the context of the reform of the European economic governance, the Commission launched a

two-tiered process to improve the cyclically-adjusted budget balance (CAB) methodology. The

importance of the CAB and of the structural balance (CAB minus one-offs and temporary measures) was

restated forcefully with the reform of the European economic governance since 2011. This reform

alongside the dramatic changes in economic data brought about by the economic and financial crisis

underscored the need of making necessary technical improvements in the computation methodology of

the CAB. The Output Gap Working Group of the Economic Policy Committee, which gathers together

representatives of all Member States, received at the end of 2011 the mandate to revise the CAB

methodology. Following this mandate, the Commission launched in early 2012 a two-tiered process.

The first tier of revision resulted in a conceptual improvement and in the update of all weighting

parameters used in the CAB: (i) employing a budgetary semi-elasticity parameter instead of the usual

budgetary sensitivity parameter and (ii) updating the decade-old data underlying the computation of the

weighting parameters used in the CAB (shares of individual revenue and expenditure, ratios of total

revenue/expenditure to GDP). The technical details are explained thoroughly in Mourre et al. (2013). This

first tier of revision has been fully up and running since the Commission 2013 Winter Forecast in

February 2013.

The second tier of revision consisted in updating the decade-old individual revenue and expenditure

elasticities underlying the CAB. The Commission asked the OECD to revise their estimates of country-

specific elasticities, as reported in Girouard and André (2005). This work aimed at (i) extending the

exercise to cover all EU Member States, since the elasticities for Member States which are not part of the

OECD were computed by the Commission (European Commission, 2006), (ii) updating the calculation of

revenue and expenditure elasticities based on most recent datasets and tax codes and (iii) making useful

improvements or refinements of the methodology. The technical details on the revision of the individual

OECD elasticities are explained thoroughly in OECD (2014). This second tier of revision was completed

and approved by all Member States in September 2014 and applied for the first time in the Commission

2014 Autumn Forecast, released in early November 2014.

The CAB is part of the 'top down' approach to identifying discretionary fiscal policy by correcting

the actual budget balance for elements not controlled by the government. The annual change in the

CAB is interpreted as the discretionary fiscal policy. By contrast, the 'bottom-up' approach considers the

sum of the budgetary impact of individual 'discretionary' budgetary measures, which correspond to a

change in policy, both on the revenue and expenditure side, and generally follow a legislative or

administrative decision. The two approaches differ in the benchmark used: the CAB benchmark

corresponds to the nominal budget balance, which remains stable as a percentage of potential output,

while the 'bottom-up' benchmark is the development of the nominal budget balance in absence of new

policy actions. Recent studies using the 'bottom-up' approach include Barrios and Fargnoli (2010),

Agnello and Cimadomo (2011), Princen et al. (2013).

The EU fiscal framework consists in first computing the cyclical component of the budget and then

subtracting it from the actual budget balance. In algebraic terms, the CAB could be expressed as:

CAB = B/Y – CC, where B/Y stands for the nominal budget balance to GDP ratio and CC for its cyclical

component. (1) The determination of the cyclical component of the budget balances in the EU

methodology requires two inputs: (i) a measure of the cyclical position of the economy (output gap) and

(ii) a measure of the link between the economic cycle and the budget (cyclical adjustment parameter).The

(1) The budget balance is statistically defined as the net lending of the general government. If its sign is negative, this means a net

borrowing of the general government, i.e. a budget deficit.

1. Introduction

product of the two inputs gives the cyclical component of the budget, CC = ε * OG, which is then

subtracted from the headline budget-to-GDP ratio to obtain the CAB. Most international organisations,

including the European Central Bank and the International Monetary Fund, as well as national EU

governments use this approach for budgetary surveillance. (2) This is the official methodology used for

fiscal surveillance in the EU and the one presented in this paper. An advantage of the subtractive

approach is its relative simplicity and the fact that the cyclically-adjusted budget balance obtained thereby

has a straightforward interpretation. (3)

This paper presents the CAB methodology used in EU fiscal surveillance and derives the new value

of the budgetary semi-elasticities, following the recent revision of individual elasticities. Section 2

sets out the theoretical framework for computing the CAB. Section 3 presents the main methodological

improvements brought by the OECD in the calculation of the revised individual revenue and expenditure

elasticities and compares them with the previously estimated elasticities. Section 4 shows the effect of the

recent revisions of individual elasticities on the value of budgetary semi-elasticities and on the CAB. In

order to ensure transparency and replicability, Appendix 1 presents step by step how the budgetary semi-

elasticities are derived from the revised individual elasticities and from the weighting parameters. It also

indicates the data sources in detail. Appendix 2 contains other background information on the elasticities

of individual revenues with respect to their base, which is also useful in the conduct of fiscal surveillance.

(2) As an example, economists from the European System of Central Banks (Bouthevillain et al., 2001) presented a variant of the

two-step approach. Instead of employing the cyclical component of output, they corrected the different elements of the budget

balances using cyclically-adjusted macroeconomic proxies of the relevant tax and expenditure bases, in order to better capture

compositional effects. However, the cyclical correction relied on statistical filtering rather than on an economic approach, such

as the production function approach, used by the European Commission to compute the potential output and the output gap. For

IMF calculations, see Escolano (2010). For an update and refinement of this approach, see Kremer (2006).

(3) The drawbacks of this subtractive approach are well known (Larch and Turrini, 2009). It is subject to the uncertainty stemming

from two sources: (i) the measurement of the potential output and the output gap in real time and (ii) the estimation of the fiscal

elasticities. The compounded error is difficult to measure, especially in real time. This approach may also disregard the

importance of shocks that could affect the budget balance (e.g. asset-price movements). An alternative group of 'top down'

methods derives the CAB directly from regression-based analysis. This direct approach, first developed by Blanchard (1990),

benefited from the theoretical shift towards supply-side theories in the analysis of the business cycle, the progress made in the

decomposition of time series between temporary and permanent components as well as advances in computing technology. This

type of approach is interesting as sensitivity analysis. However, it remains complex and difficult to communicate upon and to

handle practically in the context of fiscal surveillance. It is also based on past statistical patterns, as the subtractive approach,

and is thus still subject to the Lucas critique.

2. THEORETICAL FRAMEWORK FOR COMPUTING THE

CYCLICALLY-ADJUSTED BUDGET BALANCE

The cyclically-adjusted budget balance (CAB) corresponds to the deficit/surplus-to-GDP ratio that

would prevail if the economy was running at potential. It is computed as the difference between the

actual balance-to-GDP ratio and an estimated cyclical component. In algebraic terms:

CAB ⋅−

−

)(

(1)

where R and G stand for the nominal government revenue and expenditure respectively and Y for

nominal GDP. The nominal budget balance B is defined as the difference between the nominal

government revenue and expenditure. The cyclical component of the budget balance is the product of a

cyclical adjustment parameter (ε) and the output gap (OG). This cyclical component is subtracted from

the actual budget as a percentage of GDP (also called 'headline budget balance' in the fiscal literature) to

obtain the CAB. This formula is a linear approximation of order one of an exponential expression (see

Mourre et al., 2013). (4) It has the merit to be easily calculated and be clearly communicable to

policymakers.

2.1. BUDGETARY SEMI-ELASTICITY: CONCEPT AND CALCULATION

The key concepts to compute the CAB are the output gap and the cyclical adjustment parameter,

i.e. the budgetary semi-elasticity. The assessment of the cyclical position of the economy is the first key

input for the computation of the CAB. It is provided by the output gap, i.e. the distance between actual

and potential real GDP in percentage points of potential output,

YYOG )( −=

. Output gap

estimates are surrounded by a degree of uncertainty and, therefore, often subject to significant revisions.

It appears difficult in practice to estimate potential output in real time, especially at cyclical turning points

or in the presence of structural breaks (see D'Auria et al., 2010). The output gap estimates used to

compute the semi-elasticities are those of the Commission 2014 Spring Forecast and are explained in

detail in Havik et al. (2014). The second key parameter is the budgetary semi-elasticity, which measures

the reaction of the budget balance to the level of the output gap. This parameter and its calculation are

explained in detail in this paper.

(4) Because of non-additivity, the CAB cannot be derived exactly from the budget balance, which makes the non-approximated

algebraic formulation cumbersome. In the full formula, the CAB is derived from the very definition of an elasticity. The

superscript p corresponds to the potential level of budget balance, revenue, expenditure and output, prevailing when the

economy is running at its potential. The other notations are explained in detailed in subsection 2.1.













−













=−== G

CAB

Considering the (constant) revenue elasticity

and the (constant) expenditure elasticity

and solving a differential equation

of order one, gives:

























and

























Using these in the CAB formula gives:

CAB p

ηη













−

























−













( ) ( ) () ( )

OGY

OGG

OGY

OGR

ηη

−

+−+=













−













( )( ) ( )( ) ( ) ( ) ( )

OGBOGBOG

GRGRGR

εεεηηηη

−=−−=











−−−−−=−+−−+≅ 111111

This proxy is mathematically derived from a limited development of order one.

2. Theoretical framework for computing the cyclically-adjusted budget balance

The budgetary semi-elasticity adequately corrects the budget balance for cyclical effects, providing

its (unobserved) value when assuming the economy running at its potential. By definition, a semi-

elasticity captures the absolute (first-difference) variation of a ratio (here the budget balance as a

percentage of GDP) to the relative variation of another variable (here the output gap). This concept

reflects the impact of the business cycle both on the numerator of the budget balance ratio (budget

balance in monetary terms) and on the denominator of the budget balance (output or GDP).

elasticitySemi













==−

(2)

Multiplied with the output gap and subtracted from the actual budget balance, the budgetary semi-

elasticity ε yields the correct calculation of the CAB5:

CAB ⋅−=

B⋅

−

−=⋅













−= ²











−−

−











+= 1

pppp

dBB

−

=−











−

(3)

where

measures the gap between the actual budget balance and the budget balance prevailing when

the economic output is at its potential level,

BBdB

−=

. Using the budgetary semi-elasticity yields the

accurate concept of the CAB, namely, the budget balance-to-GDP ratio that would prevail if the economy

was at potential. (6)

The budgetary semi-elasticity is equal to the difference of the semi-elasticity of revenue and the

semi-elasticity of expenditure. Rewriting the actual surplus/deficit in terms of its components (revenue

and expenditure), the semi-elasticity ε can be broken down into the weighted average of the cyclical

elasticity of revenue (expressed in monetary amount) minus one and the cyclical elasticity of expenditure

(expressed in monetary amount) minus one. The term 'minus one' indeed corresponds to the elasticity of

the denominator (GDP) of the revenue-to-GDP ratio and the expenditure-to-GDP ratio to itself.

( ) ( )

1111 −−−=













−−













−=













−

























ηηε

(4)

where

ηR

and

ηG

denote respectively the elasticity of (total) revenue and expenditure with respect to the

output gap. (ηR –1) and (ηG–1) correspond to the elasticity of the revenue-to-GDP ratio and the elasticity

of the expenditure-to-GDP ratio respectively.

The semi-elasticity of revenue is fairly close to zero, since all tax revenue categories have a marked

cyclical pattern. More precisely and as shown in the following section, revenues - except for non-tax

(5) This concept is a local one, valid in the vicinity of the point considered. This is why we use the derivative form. In practice, the

empirical elasticities used in the paper are an approximation. Since the estimated elasticities are constant over time, the

empirical approximation is very limited.

(6) This was not the case before the implementation of the first tier of the CAB revision, where the concept of budgetary sensitivity

was used. The latter only corrects the budget balance in monetary terms for cyclical effects (the numerator of the budget

balance as a percentage of GDP). The cyclically-adjusted budget balance in monetary terms was then divided by the actual

nominal GDP (instead of the potential nominal GDP).

2. Theoretical framework for computing the cyclically-adjusted budget balance

revenue - broadly follow the cyclical developments in GDP (output gap) and the total revenue as a

percentage of GDP (i.e. the revenue-to-GDP ratio) does therefore not vary much with the cycle.

Technically, the revenue-to-GDP ratio does not move much with the economic cycle, since the (often

large) fluctuations in the numerator (revenue) and denominator (GDP) broadly offset each other.

The semi-elasticity of expenditure is negative and fairly close to the expenditure-to-GDP ratio, since

only unemployment-related spending, among all expenditures, is considered cyclical. The latter only

forms a small fraction of total public spending. The other expenditures are assumed to be invariant with

the cycle.(7) In other words, the low cyclicality of expenditures makes the expenditure-to-GDP ratio very

cyclical, since the ratio is mainly influenced by its denominator, i.e. GDP, with little offsetting effect from

the numerator (expenditure): the expenditure-to-GDP ratio rises in bad times and decreases in good times.

2.2. VARIOUS COMPONENTS OF THE BUDGETARY ELASTICITY

The budgetary semi-elasticity can be further broken down into the weighted sum of individual

elasticities by type of revenue and expenditure. The budgetary semi-elasticity with respect to the output

gap can be rewritten as:

( ) ( )

iRGRGR Ui 









−−











−=−−−=−=

∑

1111 5

ηηηηεεε

(5)

This requires estimating the elasticities to the output gap of five individual revenue categories ηRi

(personal income taxes, corporate income taxes, indirect taxes, social security contributions, non-tax

revenue) and of one cyclically-sensitive spending category ηGU (unemployment-related expenditure).

Individual elasticities are then aggregated to an overall revenue elasticity ηR and an overall expenditure

elasticity ηG.

To compute the budgetary semi-elasticity, individual elasticities need to be summed together using

weighting parameters. Individual revenue elasticities are then aggregated to an overall revenue elasticity

ηR using the share of each item in the total revenue as weights Ri/R. The same calculation applies for the

overall expenditure elasticity ηG, where the elasticity of unemployment-related expenditure is transformed

into the overall expenditure elasticity using the share of unemployment-related expenditure in total

expenditure as weight GU/G. After subtracting 1 from the elasticity of the revenue level and from the

expenditure level, both elasticities are then multiplied by the revenue-to-GDP ratio R/Y and expenditure-

to-GDP ratio G/Y to yield the semi-elasticity of revenue and expenditure. This is done since budgetary

variables are generally expressed as a percentage of GDP. Appendix 1 presents step by step how the

semi-elasticities are derived from the individual elasticities and from the weighting parameters. It also

indicates the data sources.

The following weighting parameters need to be estimated to derive the budgetary semi-elasticity:

• The revenue and expenditure structure

− the share of the five individual revenue categories in % of total general government revenue (Ri/R),

− the share of the unemployment-related expenditure in % of total general government expenditure

(GU/G).

(7) The cyclical inertia of public spending, combined with the cyclically-driven pattern of public revenue, corresponds to the so-

called fiscal stabiliser: the headline budget balance deteriorates in troughs and improves in booms, which mitigates the

economic cycle itself by supporting domestic demand (i.e. exercising a counter-cyclical effect).

2. Theoretical framework for computing the cyclically-adjusted budget balance

• The aggregate revenue and expenditure ratios

− the weight of total general government revenue in % of GDP (R/Y),

− the weight of total general government expenditure in % of GDP (G/Y).

The weighting parameters are those set in 2013 during the first tier of revision (see Mourre et al.,

2013). To take into account both recent developments and data revisions, the shares of individual revenue

and spending categories, as well as the revenue/expenditure-to-GDP ratios were updated in 2013. This

updating was done consistently using a 10-year average over 2002 – 2011 period. The weighting

parameters will be updated every six years, i.e. every second update of Medium Term Objectives, to

reflect changes in the government revenue and expenditure. However, an inaccuracy in the computation

of revenue shares (% of total revenues) in Mourre et al. (2013) needed to be adjusted. It concerns a

limited number of countries (Cyprus, Latvia, Lithuania, Luxembourg, Malta and Romania), for which the

AMECO database was used as OECD data were not available. The revenue shares for these countries

were only slightly affected by the adjustment (see Table A.2).

Since the weighting parameters are left unchanged (except minor adjustments), the revision in the

budgetary semi-elasticities is driven by the revision of individual elasticities. Section 3 presents the

revision of individual revenue and expenditure elasticities performed by the OECD under the supervision

of Member State representatives. The revision concerns the following six individual elasticities:

− the elasticities of the five aforementioned revenue categories with respect to the output gap ηR,i,

− the elasticity of unemployment expenditure with respect to the output gap ηGu. The elasticity of

other expenditures to the output gap is assumed to be zero, reflecting the absence of cyclical

pattern according to theory.

3. REVISION OF INDIVIDUAL REVENUE AND EXPENDITURE

ELASTICITIES

This section presents the revised elasticity estimates and compares them to those based on the 2005

methodology. The first subsection sets out the original methodology used by the OECD to estimate

revenue and expenditure elasticities. According to this methodology, the elasticity with respect to the

output gap is computed by using a two-step approach, i.e. multiplying the revenue (expenditure)-to-base

elasticity and the base-to-output gap elasticity. The second subsection presents the main methodological

innovations applied by the OECD when re-estimating the individual elasticities. Those innovations

include the update of the decade-old data and the implementation of several improvements and

refinements. The last subsection compares the revised elasticities with those previously used for EU fiscal

surveillance and presents the revenue (expenditure)-to-base and base-to-output gap elasticities for all

revenue and expenditure categories.

3.1 ORIGINAL OECD ESTIMATIONS OF INDIVIDUAL ELASTICITIES USED BY THE EU

To estimate the elasticities of the budget items with respect to the output gap, Van den Noord

(2000) developed a two-step methodology. In this study, four revenue items (personal income taxes,

corporate income taxes, social security contributions and indirect taxes) and one expenditure item

(unemployment-related expenditure) are considered to be cyclically sensitive. The cyclical elasticity of

non-tax revenue was implicitly assumed to be zero. The output gap elasticity of each of those budget

items is computed by estimating the revenue (expenditure)-to-base elasticity εR/base and the base-to-

output gap elasticity εbase/OG . Both estimated elasticities are then multiplied in order to compute the

overall elasticity with respect to the output gap εR/OG. This can be written analytically as:

OGbasebaseROGR///

εεε

⋅=

(6)

This methodology was updated and improved by Girouard and André (2005), so as to feed into the

calculation of the CAB. They took into account changes in the tax codes that had occurred since the

former study to the extent these affect the cyclical elasticities of tax revenues. They also made several

improvements to the estimation method. The original approach of computing the output gap elasticities,

using a two-step methodology, however, remained unchanged.

The revenue (expenditure)-to-base elasticities were imposed or estimated based on tax code data.

For personal income taxes and social security contributions, Girouard and André (2005) estimated the

revenue-to-base elasticities (ε𝑅/𝑏𝑎𝑠𝑒 ) using tax rules and income distribution data, following the

methodology of Giorno et al. (1995). The computations were updated by using 2003 tax law information

and income distributions of 1999 to 2001. The base of those revenue categories was approximated by the

average wage income per employee in the manufacturing sector. The base elasticities of corporate income

tax and indirect tax revenue were assumed to be one, since revenues were observed to evolve

proportionally to their bases, profits and consumption respectively. On the expenditure side, the elasticity

of unemployment-related expenditure to its base (unemployment) was also assumed unitary, leading to an

elasticity of total expenditure to unemployment equal to the share of unemployment-related expenditure

tot total expenditure.

The base-to-output gap elasticities were estimated econometrically for each budgetary item using

generalised least squares estimation. Girouard and André (2005) estimated the elasticity of tax bases as

well as unemployment with respect to the output gap using three decades of time-series data ending in

2003. They used the following econometric specification to estimate the elasticities of the bases to the

output gap (ε𝑏𝑎𝑠𝑒/OG ):

3. Revision of individual revenue and expenditure elasticities

)/log(

10 pp

YYYbase ∆+=∆

αα

(7)

where base is the revenue (expenditure) base, Y is output, Yp is potential output and the coefficient α1

denotes the elasticity of the base to the output gap. For personal income taxes and social security

contributions, the base is approximated by the product of the wage rate and employment. For corporate

income taxes, the elasticity of profits to the output gap is assumed to be equal to the profit share. For

indirect taxes, the elasticity is set to unity, due to a wide dispersion of estimates and large standard errors.

For unemployment-related expenditure, the ratio of the base to potential output is approximated using the

ratio of unemployment to potential unemployment.

The elasticities computed on the basis of the 2005 methodology were used for EU fiscal surveillance

until 2013. For OECD countries, the elasticities were those taken from Girouard and André (2005). The

elasticities for Member States, which were not part of the OECD, were computed by the Commission

based on the 2005 methodology (European Commission, 2005 and 2006).

3.2 MAIN METHODOLOGICAL INNOVATIONS RECENTLY INTRODUCED BY THE OECD

Given the decade-old data underlying the former individual elasticities, the OECD re-estimated the

elasticities using the latest available data, at the request of the Commission. As the former

computations of the individual elasticities used data ending in 2003, they were updated using the most

recent datasets (covering the period 1990-2013) and the more recent tax codes (2010-11 tax codes). The

study was also extended to cover all EU Member States, including those which are not part of the OECD,

based on data provided by the European Commission.

The OECD applied the same approach as the original methodology to compute individual revenue

and expenditure elasticities. As in the original methodology, a two-step approach was used. The

elasticities of individual revenue (expenditure) categories with respect to their base and the elasticities of

the revenue (expenditure) base to the output gap were computed separately. They were then multiplied to

obtain the elasticity of individual revenue (expenditure) categories with respect to the output gap.

However, the OECD improved the methodology by introducing some necessary refinements and

methodological innovations, summarised in Table 3.1, i.e.

• for personal income taxes, using more disaggregated data (wages and salaries, self-employment

income, capital income) and estimating the elasticity for each disaggregated income item separately;

• for social security contributions, using more disaggregated data (employees' and employers'

contributions) and estimating the elasticity for each item separately;

• for corporate income taxes, estimating the revenue-to-base elasticities empirically (instead of being

assumed to unity) and estimating directly the base-to-output gap elasticities instead of using the

reciprocal of the elasticity of wage bill to output gap;

• for non-tax revenue, supporting the zero elasticity assumption by empirical estimations, which indeed

provided support to the assumed absence of clear cyclicality (8);

(8) Whilst the role of non-tax revenue may not be negligible in some Member States in some years, its amount is generally limited

and, in most cases, unrelated to the business cycle. Potential large non-tax revenue is linked to taking over pension obligations

from the private sector (under the category of capital transfer but which comes with the obligation of future pension payments).

The sale of market output is limited in size and dependent on demand or existing procedures for these services and thus cannot

often be regarded as cyclical. Property income includes dividends from state-owned companies (such as the utilities or public

networks) and renting out real estates, which can be large in some cases and are at the discretion of the government (e.g. policy

regarding the perception of dividends as opposed to reinvestment in the company, renting out new estates). Their relation with

the output gap is not clear cut. Moreover, many non-tax "revenue" is not considered statistically as revenue in the sense of the

3. Revision of individual revenue and expenditure elasticities

• for all base-to-output gap elasticities, using the revised EU output gaps, computed following the

production function methodology and including a NAWRU estimate for the non-cyclical part of

unemployment, as applied since the Commission 2014 Spring Forecast (see Havik et al., 2014).

Table

3.1: Main refinements and methodological innovations per revenue and expenditure category

Source:

OECD (2014).

Empirical estimates were made for each revenue category, even for those whose elasticity was

assumed to be unitary in the 2005 methodology, as well as for unemployment and earnings-related

expenditure. However, for some revenue and expenditure categories, the estimates were not fully

consistent with theoretical expectations and/or very disperse across countries without clear reason.

Therefore it was decided:

• to keep the unitary elasticity assumption for indirect taxes, given robustness and data issues. There is

large uncertainty regarding the exact value of the elasticity for each country, due to various causes (9).

Moreover, the elasticities empirically estimated by the OECD show a great deal of cross-country

dispersion and take a value lower than unity for many countries, which cannot be easily justified. The

only solid evidence, as confirmed by panel estimates by the International Monetary Fund (Belinga et

al., 2014) and the Commission (Princen and Mourre, 2014), is that the elasticity of indirect tax

revenue to base is not far from one for most countries over the medium run. (10) An elasticity slightly

higher than one was assumed for Italy (1.1), given the large size of IRAP – a particular form of

taxation not found in other Member States – its specific base and its idiosyncratic cyclical pattern –

confirmed by empirical estimates.

SGP. For instance, the 'overdraft' of dividends, i.e. exceeding the profits of the corporation, would not be regarded as revenue in

ESA95 terms, but rather as a financial transaction (withdrawal of equity). Privatisation receipts (and more generally selling non-

financial assets) are considered as public disinvestment, that is, negative spending rather than additional revenue. Moreover,

selling financial assets is considered to be 'below the line', not affecting the ESA95 deficit but reducing the level of public debt

(as part of the 'stock-flow' adjustment).

(9) These reasons are, among others, the irregular development of asset markets, different cyclical developments in VAT and

excise duties, the inability to measure compositional effects and dynamics in the CAB methodology and the only partial

correction for discretionary measures (only those affecting the standard tax rate, not the tax base).

(10) When running a panel regression for indirect tax revenue to output gap for 27 Member States (no data for Slovenia), the

estimated elasticity is very close to one. The specification includes country fixed effects, a dummy for 2009 and controls for the

VAT rate.

Revenue/expenditure category Elasticity of revenue /expenditure to base Elasticity of base to output gap

Update to 2010-11 tax/benefit codes

Richer income distribution data

Closer alignment of revenue to bases

Update to 2010-11 tax/benefit codes

Richer income distribution data

Disaggregation employer-emp loyee

Corporate income taxes

Estimated empirically rather than unitary elasticit y

assumption

Estimated empirically rather than taking recip rocal

of wage to out put gap elasticit y

Indirect taxes

Estimated empirically but uniform assumption

preferred

Unit ary elasticit y assump tion

Unemployment-related expenditure Unitary elast icity as sumpt ion Estimated empirically

Personal income taxe s

Social se curity contributions

Estimated for t hree income categories (wages and

salaries, self-employ ment income, cap ital income)

Estimated for wages and salaries

3. Revision of individual revenue and expenditure elasticities

• not to retain earnings-related transfers as an additional cyclical expenditure item, given the high

dispersion in the empirical estimates across countries, which was not easily explicable. Moreover,

there is no binding theoretical rationale justifying a marked cyclical pattern for this type of – fairly

heterogeneous – expenditure (family benefits, housing benefits, in-work-benefits).

• to retain the unitary elasticity assumption for unemployment expenditure to its base (the level of

unemployment), given statistical issues affecting the indicators of unemployment benefits. Moreover,

no strong theoretical rationale supports the idea that the development in unemployment benefits

should deviate significantly from that of the number of unemployed people.

The revision of individual elasticities had to resolve a number of methodological issues. Those

methodological challenges mainly concerned:

• the time-invariance of elasticities. As the former ones, the revised elasticities are considered as time-

invariant. The methodology was not changed in this regards, since the variation of elasticities is not

following a clearly identified output-gap-driven pattern in most countries and could be influenced by a

wealth of factors (e.g. fluctuating structure of all sub-tax components, complex dynamic and lagged

effects, impact of inflation and indexation mechanisms – the fiscal drags, impact of changing tax

compliance).

• the consistent application of model selection criteria for each country. Given the complexity of the

model selection, multiple statistical criteria were used (goodness-of-fit of the equation, statistical

significance of the variable of interest, absence of time-series correlation). The use of all these criteria

sometimes created some trade-off. In case of equally acceptable models from a statistical standpoint,

the model retained was the one making most sense from an economic standpoint and avoiding the

occurrence of outliers which are difficult to explain. Only suggestions by Member States that were

fully in line with the common methodology were retained. (11)

• the coherent treatment of statistically non-significant results. The EU average was used when

empirical estimation gave rise to statistically non-significant results or when data were missing for

specific countries. The alternative would have been to set statistically non-significant results to zero.

This, however, would not have taken into account the fact that available time series are sometimes

very short and do not allow to exploit meaningful statistical inference. Moreover, it would have led to

very strong dispersion across countries in terms of cyclical responsiveness, which would not have

been explicable.

• the treatment of discretionary fiscal measures. Discretionary fiscal measures could influence the

estimates of the elasticities, since they affect revenue and expenditure. However, they do not

correspond to a spontaneous reaction of the economic cycle, which revenue and expenditure

elasticities are meant to capture. While this issue was difficult to solve, because of a lack of reliable

(11) Some technical adjustments of sometimes non-negligible magnitude were needed for accuracy purposes although not

straightforward and complex to explain in non-technical words. For instance, the complex rescaling of some empirical estimates

relative to the elasticity of the taxation on personal income categories was necessary to ensure economic consistency: these

empirical estimates had to be rescaled to make sure that their weighted sum could add up to one. Indeed, the sum of total

income items corresponds to the GDP, which have a unitary elasticity with respect to output gap by definition. As a second

example, the short-term effects estimated with an error correction model had to be cumulated for a period of several years, so as

to avoid an overestimation of the short term effect of the business cycle. Indeed the EU methodology uses a static model rather

than a dynamic correction of the output gap, since only the contemporary output gap is considered. In more technical words,

such an approach only captures the average short term effect (ST) (like in Girouard and André, 2005), which differs from the

short-term overshooting in the error correction model, before its more or less fast convergence toward the long term effects

(LT). In order to reconcile the two results, the lagged effects t+1 and t+2: ST + λ(ST-LT) + λ(ST + λ(ST-LT) - LT) were added

to the contemporary effects, in order to avoid focusing on short-term overshooting. This also takes due account of the return to

the long-term effect, which can be far away from the short term effect (in particular for corporate income taxes, where the error

correction model estimates were considered over three years). For more details, see OECD (2014).

3. Revision of individual revenue and expenditure elasticities

long time series for discretionary fiscal measures, the change in statutory tax rates was often used as a

reasonable proxy (although the discretionary change in the base cannot be captured).

The re-estimation of individual elasticities was carried out with ESA1995 data, since ESA2010 data

were not available at the time of the revision. As for the previous methodological changes of the CAB

(i.e. the first tier revision in the Commission 2013 Winter Forecast and the NAWRU revision in the

Commission 2014 Spring Forecast), the CAB was back-casted up to the year 1995 and as such reported in

the AMECO database. This is done in order to avoid a break in the series and to favour a correct

interpretation of the developments in discretionary fiscal policy. For policy purposes, it was important to

change the CAB methodology at the same time as the change-over to ESA2010 and to implement the

changes together. Otherwise, this would have led to staggered changes in the structural budget balance.

(12)

3.3 ESTIMATION RESULTS

Revisions of individual revenue and expenditure elasticities can be substantial at country-level but

do not follow a clear pattern across EU Member States. As shown by Table 3.2, the revisions of

individual elasticities are not negligible for many countries. However, the revisions do not follow a clear

pattern, except for corporate income taxes where the revised elasticities are higher than the former ones in

most countries.

Table

3.2: Difference between 2014 and 2005 individual elasticities of revenue and expenditure categories with respect to the output gap

Note:

The elasticities related to non-tax revenues and other than unemployment-related expenditure are omitted in the table because they are assumed

to be zero in both

cases. The EU-28 averages of the elasticities are simple arithmetic averages of the elasticities. The EU-28 averages of the differences

are the average of the absolute differences.

Source:

2005 elasticities are taken from Girouard and André (2005) for OECD countries and from European Commission (2006) for EU non-OECD

countries. 2014 elasticities are those estimated

in OECD (2014).

The revised individual revenue and expenditure elasticities follow the economic expectation. On the

revenue side, corporate income taxes are the most cyclical, because of the high correlation of profits to

(12) Regarding the possible impact of the change to ESA2010, the first component (elasticities of revenue/expenditure to base) has

no reason to be altered, since the revenue/expenditure and their base are not significantly affected by the change in the statistical

base. The second component (elasticity of base to output gap) may be marginally altered by the change in the output gap

induced by the change in GDP figures in ESA2010 compared with ESA1995.

2005 2014 Dif ference 2005 2014 Di fference 2005 2014 Di fference 2005 2014 Di fference 2005 2014 D ifferen ce

1.09 1.31 0.22 1.57 2.48 0.91 0.80 0.71 -0.09 1.00 1.00 0.00 -3.30 -3.70 -0.40

1.40 1.15 -0.25 1.40 2.13 0.73 0.88 0.61 -0.27 1.00 1.00 0.00 -3.30 -3.91 -0.61

1.19 1.65 0.46 1.39 1.78 0.39 0.80 0.86 0.06 1.00 1.00 0.00 -3.30 -2.45 0.85

0.96 1.00 0.04 1.65 3.15 1.50 0.72 0.41 -0.31 1.00 1.00 0.00 -7.90 -4.97 2.93

1.61 1.87 0.26 1.53 1.91 0.38 0.57 0.60 0.03 1.00 1.00 0.00 -5.00 -3.30 1.70

0.80 1.58 0.78 1.40 1.78 0.38 0.70 1.40 0.70 1.00 1.00 0.00 -3.30 -5.18 -1.88

1.44 1.58 0.14 1.30 1.25 -0.05 0.88 1.04 0.16 1.00 1.00 0.00 -5.30 -5.45 -0. 15

1.80 2.22 0.42 1.08 1.90 0.82 0.85 0.58 -0.27 1.00 1.00 0.00 -3.30 -3.15 0.15

1.92 1.84 -0.08 1.15 1.56 0.41 0.68 0.72 0.04 1.00 1.00 0.00 -3.30 -5.83 -2.53

1.18 1.86 0.68 1.59 2.76 1.17 0.79 0.63 -0.16 1.00 1.00 0.00 -3.30 -3.23 0.07

1.23 1.71 0.48 1.41 2.29 0.89 0.74 0.70 -0.03 1.00 1.00 0.00 -3.30 -2.39 0.91

1.75 1.46 -0.29 1.12 3.07 1.95 0.86 0.58 -0.28 1.00 1.10 0.10 -3.30 -2.29 1.01

1.97 2.28 0.31 1.50 2.26 0.76 0.83 0.91 0.08 1.00 1.00 0.00 -3.30 -3.08 0.22

0.90 1.50 0.60 1.30 1.99 0.69 0.70 0.81 0.11 1.00 1.00 0.00 -3.30 -3.94 -0.64

0.90 1.79 0.89 1.40 1.67 0.27 0.70 1.04 0.34 1.00 1.00 0.00 -3.30 -5.60 -2.30

1.50 1.34 -0.16 1.75 2.36 0.61 0.76 0.39 -0.37 1.00 1.00 0.00 -3.30 -3.06 0.24

1.70 1.73 0.03 1.44 2.21 0.77 0.63 0.76 0.13 1.00 1.00 0.00 -3.30 -1.25 2.05

1.67 2.07 0.40 1.40 2.11 0.71 0.61 0.71 0.10 1.00 1.00 0.00 -3.30 -1.96 1.34

1.69 2.37 0.68 1.52 3.13 1.61 0.56 0.62 0.06 1.00 1.00 0.00 -7.90 -5.76 2.14

1.31 1.66 0.35 1.69 2.74 1.05 0.58 0.65 0.07 1.00 1.00 0.00 -3.30 -4.71 -1.41

1.00 1.88 0.88 1.39 2.92 1.53 0.69 0.97 0.28 1.00 1.00 0.00 -5.80 -6.18 -0.38

1.53 1.97 0.44 1.17 1.33 0.16 0.92 0.79 -0.13 1.00 1.00 0.00 -3.30 -6.04 -2.74

1.21 1.29 0.08 1.60 2.02 0.42 0.75 0.62 -0.13 1.00 1.00 0.00 -3.30 -3.91 -0.61

1.37 1.63 0.25 1.50 3.76 2.26 0.86 0.66 -0.20 1.00 1.00 0.00 -5.80 -2.81 2.99

0.70 1.93 1.23 1.32 1.58 0.26 0.70 0.89 0.19 1.00 1.00 0.00 -5.80 -2.98 2.82

0.91 1.41 0.50 1.64 2.03 0.39 0.62 0.77 0.15 1.00 1.00 0.00 -5.80 -3.66 2.14

0.92 1.32 0.40 1.78 1.56 -0.22 0.72 0.71 -0.01 1.00 1.00 0.00 -7.90 -4.42 3.48

1.18 1.68 0.50 1.66 3.92 2.26 0.91 0.60 -0.31 1.00 1.00 0.00 -5.30 -4.21 1.09

EU-28

1.32 1.68 0.42 1.45 2.27 0.84 0.74 0.74 0.18 1.00 1.00 0.00 -4.35 -3.91 1.42

Revenue

Expen dit ure

Personal i ncome tax

Corporate income tax

Social security contributions

Indirect taxes

Unemployment-rel ated expenditure

3. Revision of individual revenue and expenditure elasticities

the fluctuation of economic activity. Moreover, in cyclical through, the proportion of firms with no or

negative profits increases: they do not pay any tax. Personal income tax is also very cyclical because of

the progressive tax scale in most countries. By contrast, social security contributions are less cyclical than

the business cycle, since the tax base (wage bill) does not respond fully to economic fluctuations. The

uniform elasticity of indirect taxation assumes that indirect tax revenue follows closely the economic

fluctuation.

Even if the elasticities of unemployment-related expenditure and of corporate income taxes show

the largest revisions on (absolute) average, they are not necessarily the main drivers of the revisions

of budgetary semi-elasticities. The revisions of the elasticities are on average the largest for

unemployment-related expenditure and corporate income taxes (see Table 3.2). However, this does not

necessarily imply that those revenue and expenditure categories are the main drivers of the revisions of

budgetary semi-elasticities. As explained in Section 2 and Table A.3, to compute budgetary semi-

elasticities, individual elasticities are weighted by the corresponding share of the individual revenue

(expenditure) category in total revenue (expenditure) and by the corresponding revenue (expenditure)

weight (in percentage of GDP). In terms of contribution to the budgetary semi-elasticities, the combined

effect of the weighting parameters of unemployment-related expenditure and corporate income taxes are

fairly modest, compared with the other budgetary items, especially personal income taxes (see Table 3.3).

Table

3.3: Contributions of individual categories to the revisions in budgetary semi-elasticities

Note:

Contributions are computed by weighting the differences between the 2014 elasticities and the 2005 elasticities, i.e. multiplying the difference

computed for each category (

see Table 3.2) with the corresponding share of revenue/expenditure (see Table A.2) and with the corresponding weights

(see Tabl

e A.3). The EU-28 averages of the elasticities are simple arithmetic averages of the elasticities.

Source:

Commission services.

On the revenue side, the elasticity of revenue to its base is on average larger than the elasticity of

the base to the output gap for all categories. Focussing on the two elasticities determining the

individual elasticities, namely the elasticity of individual revenue with respect to its base and the elasticity

of each revenue base to the output gap, Table 3.4 shows that the revenue-to-base elasticity is on average

larger than the base-to-output gap elasticity for all revenue categories. This also holds at the country-level

for personal income taxes. However, for corporate income taxes and social security contributions, the

Personal i ncome tax Corporate income

tax

Social security

contributions

Indirect taxes Non-tax re venue

Unemployment-

related expenditure

Earnings-relate d

expenditure

(1) (2) (3) (4) (5) (6) (7) Sum (1) to (6)

0.03 0.03 -0.02 0.00 0.00 0.01 0.00 0.05

-0.01 0.01 -0.02 0.00 0.00 0.00 0.00 -0.01

0.02 0.02 0.01 0.00 0.00 0.00 0.00 0.04

0.01 0.05 -0.01 0.00 0.00 -0.05 0.00 0.01

0.02 0.01 0.00 0.00 0.00 -0.05 0.00 -0.01

0.05 0.01 0.08 0.00 0.00 0.01 0.00 0.15

0.01 0.00 0.01 0.00 0.00 0.00 0.00 0.02

0.02 0.03 -0.04 0.00 0.00 0.00 0.00 0.01

-0.01 0.01 0.00 0.00 0.00 0.05 0.00 0.06

0.06 0.03 -0.03 0.00 0.00 0.00 0.00 0.06

0.01 0.03 0.00 0.00 0.00 0.00 0.00 0.04

-0.03 0.05 -0.04 0.01 0.00 -0.01 0.00 -0.01

0.01 0.05 0.01 0.00 0.00 0.00 0.00 0.07

0.04 0.01 0.01 0.00 0.00 0.00 0.00 0.06

0.05 0.00 0.03 0.00 0.00 0.01 0.00 0.10

-0.01 0.04 -0.04 0.00 0.00 0.00 0.00 -0.02

0.00 0.01 0.02 0.00 0.00 -0.01 0.00 0.02

0.02 0.02 0.01 0.00 0.00 -0.01 0.00 0.05

0.06 0.05 0.01 0.00 0.00 -0.04 0.00 0.08

0.04 0.02 0.01 0.00 0.00 0.02 0.00 0.09

0.04 0.04 0.03 0.00 0.00 0.00 0.00 0.12

0.03 0.01 -0.02 0.00 0.00 0.03 0.00 0.04

0.00 0.01 -0.01 0.00 0.00 0.00 0.00 0.00

0.02 0.05 -0.03 0.00 0.00 -0.02 0.00 0.02

0.04 0.01 0.03 0.00 0.00 -0.01 0.00 0.06

0.07 0.01 0.02 0.00 0.00 -0.05 0.00 0.05

0.07 -0.01 0.00 0.00 0.00 -0.06 0.00 0.00

0.06 0.08 -0.03 0.00 0.00 0.00 0.00 0.11

EU-28

0.03 0.02 0.00 0.00 0.00 -0.01 0.00 0.05

S t de v.

0.03 0.02 0.03 0.00 0.00 0.02 0.00 0.04

Revenue

Expen diture

Total differen ce in

semi-e lasticity of the

budget balance

3. Revision of individual revenue and expenditure elasticities

revenue-to-base elasticity is smaller than the base-to-output gap elasticity for a limited number of

Member States. For indirect taxes, both the revenue-to-base elasticity and the base-to-output gap elasticity

were assumed to be unitary, except for the revenue-to-base elasticity of Italy, which was set to 1.1, as

explained in Section 3.2.

On the expenditure side, the estimated elasticity of unemployment to the output gap is fairly large

and dispersed across Member States. For unemployment-related expenditure - the only expenditure

item which was assumed to be cyclically-driven - a unitary elasticity assumption was used for the

expenditure-to-base elasticity. The base-to-output gap elasticities were empirically estimated and turned

out to be systematically larger than one in absolute terms (Table 3.4).

Table

3.4: Revenue (expenditure)-to-base and base-to-output gap elasticities of revenue and expenditure categories

Note:

The EU-28 averages of the elasticities are simple arithmetic averages of the elasticities.

Source:

OECD (2014) and Commission services.

Revenue- to-

base

elasticity

Base-to-

output gap

elasticity

Revenue- to-

output gap

elasticity

Revenue- to-

base

elasticity

Base-to-

output gap

elasticity

Revenue- to-

output gap

elasticity

Revenue- to-

base

elasticity

Base-to-

output gap

elasticity

Revenue- to-

output gap

elasticity

Revenue- to-

base

elasticity

Base-to-

output gap

elasticity

Revenue- to-

output gap

elasticity

Expenditure-

to-base

elasticity

Base-to-

output gap

elasticity

Expenditure-

to-output

gap

elasticity

a b = a * b c d = c * d e f = e * f g h = g * h i j = i * j

1.62 0.81 1.31 1.62 1.53 2.48 1.15 0.61 0.71 1.00 1.00 1.00 1.00 -3.70 -3.70

1.11 1.04 1.15 1.81 1.18 2.13 0.93 0.66 0.61 1.00 1.00 1.00 1.00 -3.91 -3.91

2.23 0.74 1.65 1.23 1.45 1.78 0.99 0.87 0.86 1.00 1.00 1.00 1.00 -2.45 -2.45

1.43 0.70 1.00 2.07 1.52 3.15 0.70 0.59 0.41 1.00 1.00 1.00 1.00 -4.97 -4.97

1.88 1.00 1.87 1.59 1.20 1.91 0.86 0.70 0.60 1.00 1.00 1.00 1.00 -3.30 -3.30

1.46 1.08 1.58 1.81 0.99 1.78 1.36 1.03 1.40 1.00 1.00 1.00 1.00 -5.18 -5.18

2.04 0.77 1.58 1.00 1.26 1.25 1.51 0.69 1.04 1.00 1.00 1.00 1.00 -5.45 -5.45

2.21 1.00 2.22 1.81 1.05 1.90 0.84 0.69 0.58 1.00 1.00 1.00 1.00 -3.15 -3.15

1.88 0.98 1.84 1.32 1.18 1.56 0.82 0.88 0.72 1.00 1.00 1.00 1.00 -5.83 -5.83

1.68 1.11 1.86 2.03 1.36 2.76 0.95 0.66 0.63 1.00 1.00 1.00 1.00 -3.23 -3.23

1.75 0.98 1.71 1.81 1.27 2.29 1.00 0.71 0.70 1.00 1.00 1.00 1.00 -2.39 -2.39

1.85 0.79 1.46 2.09 1.47 3.07 0.97 0.60 0.58 1.10 1.00 1.10 1.00 -2.29 -2.29

2.25 1.01 2.28 1.93 1.17 2.26 1.00 0.91 0.91 1.00 1.00 1.00 1.00 -3.08 -3.08

1.31 1.14 1.50 1.89 1.05 1.99 1.00 0.81 0.81 1.00 1.00 1.00 1.00 -3.94 -3.94

1.46 1.23 1.79 1.68 0.99 1.67 1.00 1.04 1.04 1.00 1.00 1.00 1.00 -5.60 -5.60

2.24 0.60 1.34 1.81 1.30 2.36 0.89 0.44 0.39 1.00 1.00 1.00 1.00 -3.06 -3.06

1.80 0.96 1.73 1.81 1.22 2.21 0.99 0.77 0.76 1.00 1.00 1.00 1.00 -1.25 -1.25

2.11 0.98 2.07 1.81 1.17 2.11 0.92 0.76 0.71 1.00 1.00 1.00 1.00 -1.96 -1.96

2.00 1.19 2.37 2.81 1.11 3.13 0.86 0.73 0.62 1.00 1.00 1.00 1.00 -5.76 -5.76

1.97 0.84 1.66 1.90 1.44 2.74 0.92 0.70 0.65 1.00 1.00 1.00 1.00 -4.71 -4.71

1.93 0.98 1.88 2.30 1.27 2.92 0.97 0.99 0.97 1.00 1.00 1.00 1.00 -6.18 -6.18

2.15 0.91 1.97 1.07 1.24 1.33 1.00 0.79 0.79 1.00 1.00 1.00 1.00 -6.04 -6.04

1.36 0.95 1.29 1.81 1.11 2.02 0.99 0.62 0.62 1.00 1.00 1.00 1.00 -3.91 -3.91

2.14 0.76 1.63 2.72 1.38 3.76 1.00 0.66 0.66 1.00 1.00 1.00 1.00 -2.81 -2.81

2.43 0.79 1.93 1.24 1.28 1.58 1.19 0.75 0.89 1.00 1.00 1.00 1.00 -2.98 -2.98

1.48 0.95 1.41 1.63 1.25 2.03 1.00 0.77 0.77 1.00 1.00 1.00 1.00 -3.66 -3.66

1.42 0.93 1.32 1.19 1.30 1.56 0.95 0.75 0.71 1.00 1.00 1.00 1.00 -4.42 -4.42

1.49 1.12 1.68 2.89 1.35 3.92 1.20 0.50 0.60 1.00 1.00 1.00 1.00 -4.21 -4.21

EU-28

1.81 0.94 1.68 1.81 1.25 2.27 1.00 0.74 0.74 1.00 1.00 1.00 1.00 -3.91 -3.91

Expen dit ure

Revenue

Personal i ncome tax

Corporate income tax

Social security contributions

Indirect taxes

Unemployment-rel ated expenditure

4. COMPUTING THE BUDGETARY SEMI-ELASTICITY AND THE

CYCLICALLY-ADJUSTED BUDGET BALANCE

By and large, the revision of the individual revenue and expenditure elasticities has only a fairly

limited effect on budgetary semi-elasticities and on the CAB. The first subsection focusses on the

effect of the revised individual elasticities on the budgetary semi-elasticities. The second subsection sets

out and analyses the effect of the revision on the CAB and on the annual variation of the CAB. Appendix

1 shows all the steps of the computation, leading to the revised budgetary semi-elasticities, so as to ensure

full replicability of the results.

4.1 IMPACT OF REVISED ELASTICITIES ON THE BUDGETARY SEMI-ELASTICITY

Budgetary semi-elasticities based on revised elasticities average out to 0.50 for the EU and range

from 0.31 to 0.65 across Member States, suggesting significant differences in the cyclicality of the

budget balance (Table 4.1). For instance, the cyclical component of the budget balance corresponding to

a one-percent output gap would be around 0.6% of GDP in Belgium, Denmark and France, compared to

half in Bulgaria and Romania (around 0.3% of GDP). Appendix Table A.3 shows the components of the

semi-elasticity of the budget balance to the output gap, based on the methodology explained in Section 2.

Table

4.1: Impact of the revised individual elasticities on the budgetary semi-elasticities and their components

Note:

Calculations follow the methodology explained in Section 2. The EU-28 averages of the elasticities are simple arithmetic averages of the

elasticities.

Source:

2005 elasticities are taken from Girouard and André (2005) for OECD countries and from European Commission (2006) for EU non-OECD

countries.

2014 elasticities are those estimated in OECD (2014).

Looking at the sub-components, the average of the semi-elasticities for revenue is close to zero,

while the semi-elasticities for expenditure average out to -0.50. The average of the semi-elasticities for

revenue ranges from -0.08 to 0.07 and its average is close to zero. This shows that revenue is almost as

cyclical as GDP, except for non-tax revenue. Therefore, the revenue-to-GDP ratio can be expected to

remain broadly constant in a normal business cycle, especially in Member States where non-tax revenue

Revenue Expe ndi tu re Budget balan ce Revenue Expe ndi tu re Budget balan ce Revenue Expe ndi tu re Budget balan ce

-0.03 -0.58 0.55 0.01 -0.59 0.61 0.04 -0.01 0.05

-0.07 -0.39 0.32 -0.08 -0.39 0.31 -0.02 0.00 -0.01

-0.06

-0.45 0.39 -0.01 -0.45 0.43 0.04 0.00 0.04

-0.06 -0.66 0.61 0.00 -0.62 0.62 0.06 0.05 0.01

-0.05 -0.61 0.56 -0.01 -0.56 0.55 0.04 0.05 -0.01

-0.10 -0.39 0.30 0.04 -0.41 0.44 0.13 -0.01 0.15

0.00 -0.51 0.50 0.02 -0.51 0.53 0.02 0.00 0.02

-0.03 -0.51 0.47 -0.02 -0.51 0.48 0.01 0.00 0.01

0.00 -0.48 0.48 0.01 -0.53 0.54 0.01 -0.05 0.06

-0.06 -0.60 0.55 0.00 -0.60 0.60 0.06 0.00 0.06

-0.05 -0.48 0.43 -0.01 -0.48 0.47 0.04 0.00 0.04

0.04 -0.51 0.55 0.04 -0.50 0.54 0.00 0.01 -0.01

0.00 -0.45 0.45 0.07 -0.45 0.52 0.07 0.00 0.07

-0.09 -0.40 0.32 -0.03 -0.41 0.38 0.06 0.00 0.06

-0.07 -0.38 0.31 0.02 -0.39 0.41 0.09 -0.01 0.10

0.02 -0.44 0.46 0.00 -0.44 0.44 -0.02 0.00 -0.02

-0.05 -0.52 0.47 -0.02 -0.51 0.49 0.03 0.01 0.02

-0.05 -0.46 0.41 0.01 -0.45 0.46 0.06 0.01 0.05

-0.05 -0.62 0.57 0.07 -0.58 0.65 0.12 0.04 0.08

-0.06 -0.55 0.49 0.01 -0.57 0.58 0.07 -0.02 0.09

-0.09 -0.49 0.40 0.03 -0.49 0.52 0.11 0.00 0.12

-0.03 -0.50 0.46 -0.02 -0.53 0.51 0.02 -0.03 0.04

-0.05 -0.38 0.33 -0.05 -0.38 0.34 0.00 0.00 0.00

-0.04 -0.50 0.46 -0.01 -0.48 0.48 0.03 0.02 0.02

-0.08 -0.41 0.33 0.00 -0.40 0.39 0.07 0.01 0.06

-0.13 -0.66 0.53 -0.03 -0.60 0.57 0.10 0.05 0.05

-0.08 -0.67 0.59 -0.02 -0.61 0.59 0.06 0.06 0.00

0.01 -0.47 0.48 0.12 -0.47 0.59 0.11 0.00 0.11

EU-28

-0.05 -0.50 0.46 0.00 -0.50 0.50 0.05 0.01 0.05

S t de v.

0.04 0.09 0.09 0.04 0.07 0.09 0.04 0.02 0.04

Se mi-elasti city based on 2005 estimate s

Se mi-elasti city based on 2014 estimate s

Difference in semi-elasticity for:

4. Computing the budgetary semi-elasticity and the cyclically-adjusted budget balance

is relatively low. In contrast, the semi-elasticities for expenditure average out to -0.50, ranging from -0.38

to -0.62, which accounts for the larger part of the disparity in the budgetary semi-elasticity across

Member States. Their value broadly correspond to the share of total expenditure in GDP. This mirrors the

fact that the elasticity of expenditure to the output gap is close to zero, given that the only expenditure

item expected to move with the business cycle is unemployment expenditure and its share in total

expenditure is small. In turn, this means that the expenditure-to-GDP ratio can be expected to change in

almost exact proportion as the output gap.

Revisions of individual revenue and expenditure elasticities have an impact on budgetary semi-

elasticities which varies from 0.00 to 0.15 in absolute terms across Member States. As shown on

Graph 4.1, the budgetary semi-elasticities based on the revised individual elasticities are slightly higher

than those based on the 2005 elasticities: 0.50 versus 0.46 on average in the EU. The cross-country

variability of the new budgetary semi-elasticities, as measured by the unweighted standard deviation, is

similar to that of the previous budgetary semi-elasticities (see Table 4.1). Also the differences between

the budgetary semi-elasticities based on 2005 and 2014 elasticities are fairly limited, as they average out

to 0.05. As shown in Table 4.1, the differences are mainly driven by the revenue side, which explains

almost all of the change. As regards those differences in budgetary semi-elasticities, two groups of

Member States can be identified.

Graph

4.1: Budgetary semi-elasticities based on former and revised individual elasticities

Source:

Commission services.

For one group of Member States, the impact of the revised elasticities on the budgetary semi-

elasticity is very limited, i.e. 0.02 or less in absolute terms. As shown on Graph 4.1, this group

comprises 11 Member States (Bulgaria, Denmark, Germany, Ireland, Greece, Italy, Luxembourg,

Hungary, Romania, Slovenia and Sweden). For most of these countries (except Bulgaria, Germany, Italy

and Luxembourg), the budgetary semi-elasticities are slightly higher than those based on the 2005

individual elasticities.

For the other - larger - group of Member States, the revision of the individual elasticities increased

the budgetary semi-elasticity, indicating a stronger cyclicality of the budget balance. This group

comprises 17 Member States (Belgium, the Czech Republic, Estonia, Spain, France, Croatia, Cyprus,

Latvia, Lithuania, Malta, the Netherlands, Austria, Poland, Portugal, Slovakia, Finland and the United

Kingdom), as shown in Graph 4.1. For all of them, the budgetary semi-elasticities are - by at least 0.03 -

higher than those based on the 2005 individual elasticities. For most of these countries (except Estonia,

Lithuania, Poland and the United Kingdom) the impact of the revised elasticities on the budgetary semi-

elasticity does not exceed 0.1. In none of these Member States the impact exceeds 0.15.

4. Computing the budgetary semi-elasticity and the cyclically-adjusted budget balance

4.2 IMPACT OF REVISED ELASTICITIES ON THE CYCLICALLY-ADJUSTED BUDGET BALANCE

The revision of the individual elasticities has a fairly limited impact on the CAB on average and in

most countries for most years. Graph 4.2 illustrates for the current year 2014 and in an optically

intuitive way that the level of the CAB is only marginally affected by the revision of individual

elasticities. This is shown graphically by the fact that most countries are very close to the 45 degree line.

The effect of the revised individual elasticities on the CAB averages out to 0.1 for both the EU and the

euro area in 2014. The difference in the CAB by using 2014 instead of 2005 individual elasticities, ranges

from -0.2 pp to 0.2 pp in 2014 except for two countries. Table 4.2 shows the effect of using the revised

individual elasticities on the CAB for five consecutive years (2011-15) and broadly confirms the fairly

limited impact on the CAB in most countries. For the large majority of countries, the change in the CAB

level does not exceed +/- 0.2 pp.

Graph

4.2: The cyclically-adjusted budget balance in 2014 using former and revised individual elasticities

Source:

Commission services.

For specific countries in specific years, however, the revision of the cyclical components can be non-

negligible. For 2013 (mostly hard data), the largest revisions are observed for Spain (+ 0.5 pp), Cyprus,

Estonia, the Netherlands and the United Kingdom (+/- 0.3 pp), as shown in Table 4.2. For 2014 (partly

forecast), the largest revisions are observed for Cyprus and Spain (+0.4 pp). For 2015 (forecast), only

Cyprus exhibits a change higher than 0.2 pp (+0.3 pp).

The impact of the revised elasticities on the annual variation in the CAB is even smaller than the

impact on the level of the CAB. The impact of the revised elasticities averages out to zero for both the

EU and the euro area in 2014. As for the level of the CAB, there is some non-negligible revision in some

countries for some years for 2014, as shown by Graph 4.3. The United Kingdom (-0.2 pp) and Cyprus and

Estonia (0.1 pp) display the largest revisions in terms of annual variation in the CAB in 2014. Table 4.3

shows the effect of using the revised individual elasticities on the annual variation of the CAB for five

consecutive years (2011-15). It confirms that, for the large majority of cases between 2011 and 2015

4. Computing the budgetary semi-elasticity and the cyclically-adjusted budget balance

(93%), the change in the CAB level does not (or is not expected to) exceed +/- 0.1 pp. The effect was

exceeding 0.4 pp in three countries in 2011, reflecting the very large annual reduction in the output gap

(upswing) in the wake of the economic and financial crisis.

Table

4.2: Impact of revised individual elasticities on the cyclically-adjusted budget balance (2011-15)

Note:

The EU-28 and EA-18 averages of the elasticities are simple arithmetic averages of the elasticities.

Source:

Commission services.

Graph

4.3: Annual variation of the cyclically-adjusted budget balance in 2014 using former and revised individual elasticities

Source:

Commission services.

2011 2012 2013 2014 2015 2011 2012 2013 2014 2015 2011 2012 2013 2014 2015

-3.8 -3.6 -2.2 -2.3 -2.1 -3.8 -3.6 -2.1 -2.3 -2.1 0.0 0.0 0.1 0.1 0.1

-2.0 -0.5 -1.3 -3.6 -3.4 -2.0 -0.5 -1.3 -3.6 -3.4 0.0 0.0 0.0 0.0 0.0

-2.6 -3.3 -0.1 -0.6 -1.8 -2.6 -3.2 0.0 -0.5 -1.7 0.0 0.1 0.1 0.1 0.0

-0.6 -1.7 1.7 1.3 -0.5 -0.6 -1.7 1.7 1.3 -0.5 0.0 0.0 0.0 0.0 0.0

-1.5 -0.1 0.6 0.7 0.6 -1.5 -0.1 0.6 0.7 0.6 0.0 0.0 0.0 0.0 0.0

1.2 -1.0 -1.0 -0.8 -0.8 1.3 -1.3 -1.3 -1.0 -0.9 0.1 -0.3 -0.3 -0.2 -0.1

-12.0 -7.1 -4.4 -3.6 -3.2 -12.0 -7.1 -4.4 -3.5 -3.2 0.0 0.0 0.1 0.0 0.0

-5.2 -2.2 -5.7 3.5 2.9 -5.1 -2.0 -5.6 3.6 3.0 0.1 0.1 0.1 0.1 0.1

-6.8 -7.0 -3.2 -2.8 -2.7 -6.5 -6.6 -2.8 -2.4 -2.4 0.3 0.4 0.5 0.4 0.3

-4.9 -4.3 -3.2 -3.2 -3.2 -4.9 -4.2 -3.1 -3.1 -3.0 0.0 0.1 0.1 0.1 0.1

-7.1 -4.5 -3.9 -4.2 -4.2 -7.1 -4.4 -3.8 -4.0 -4.1 0.0 0.1 0.1 0.1 0.1

-2.6 -1.5 -0.5 -0.6 -0.9 -2.6 -1.5 -0.6 -0.6 -0.9 0.0 0.0 0.0 0.0 0.0

-5.9 -5.2 -2.6 -0.2 -1.0 -5.9 -5.1 -2.3 0.2 -0.8 0.0 0.1 0.3 0.4 0.3

-1.5 -0.2 -1.0 -1.4 -1.6 -1.1 -0.1 -1.0 -1.5 -1.6 0.4 0.1 0.0 -0.1 -0.1

-7.8 -2.8 -2.6 -1.2 -1.5 -7.5 -2.7 -2.6 -1.2 -1.5 0.4 0.1 0.0 0.0 0.0

0.8 1.6 2.1 1.1 0.4 0.8 1.5 2.0 1.1 0.4 0.0 -0.1 -0.1 0.0 0.0

-4.5 -0.7 -1.2 -2.6 -2.9 -4.4 -0.6 -1.2 -2.5 -2.9 0.0 0.1 0.1 0.0 0.0

-2.6 -3.5 -2.6 -2.5 -2.7 -2.6 -3.5 -2.6 -2.5 -2.7 0.0 0.0 0.0 0.0 0.0

-3.9 -2.4 -0.3 -0.8 -1.0 -3.8 -2.2 0.0 -0.5 -0.8 0.1 0.2 0.3 0.2 0.2

-2.7 -2.3 -1.1 -2.4 -1.4 -2.7 -2.3 -1.1 -2.3 -1.3 0.0 0.0 0.1 0.1 0.1

-5.7 -3.9 -3.7 -3.1 -2.5 -6.0 -4.0 -3.5 -3.0 -2.4 -0.2 0.0 0.1 0.1 0.1

-5.7 -2.6 -1.9 -2.6 -1.8 -5.5 -2.4 -1.6 -2.4 -1.6 0.2 0.3 0.3 0.2 0.1

-4.7 -1.9 -1.7 -1.7 -2.5 -4.7 -1.9 -1.7 -1.7 -2.5 0.0 0.0 0.0 0.0 0.0

-5.5 -1.9 -12.4 -3.2 -2.2 -5.4 -1.8 -12.3 -3.1 -2.2 0.0 0.1 0.1 0.0 0.0

-3.7 -3.5 -1.6 -1.9 -1.5 -3.7 -3.3 -1.4 -1.7 -1.3 0.1 0.1 0.2 0.2 0.2

-0.9 -1.2 -0.9 -1.2 -1.2 -0.9 -1.1 -0.8 -1.1 -1.1 0.0 0.1 0.1 0.1 0.1

0.0 0.0 -0.3 -1.5 -1.1 0.0 0.0 -0.3 -1.5 -1.1 0.0 0.0 0.0 0.0 0.0

-6.2 -6.8 -4.7 -5.1 -4.5 -5.8 -6.5 -4.4 -5.0 -4.5 0.3 0.3 0.3 0.1 0.0

EU 28

-3.9 -2.6 -2.1 -1.7 -1.7 -3.8 -2.6 -2.0 -1.6 -1.7 0.1 0.1 0.1 0.1 0.1

EA 18

-3.7 -2.7 -2.3 -1.3 -1.3 -3.7 -2.6 -2.2 -1.2 -1.2 0.1 0.1 0.1 0.1 0.1

Cyclicall y-adjusted budget balance using 2005 e lasticitie s

Cyclicall y-adjusted budget balance using 2014 e lasticitie s

Difference

EE IE

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

10.0

11.0

-2.0 -1.0 0.0 1.0 2.0 3.0 4.0 5.0 6.0 7.0 8.0 9.0 10.0 11.0

Annual variation in CAB based on revised individual elasticities

Annual variation in CAB based on 2005 individual elasticities

4. Computing the budgetary semi-elasticity and the cyclically-adjusted budget balance

Table

4.3: Impact of revised individual elasticities on the annual variation in the cyclically-adjusted budget balance (2011-15)

Note:

The EU-28 and EA-18 averages of the elasticities are simple arithmetic averages of the elasticities.

Source:

Commission services

The reason for this limited effect on the CAB can be attributed to the small revision in the cyclical

components of the budget balance. As illustrated by Graph 4.4 and 4.5, the revision in the cyclical

components of the budget balance, which is the product of the revised semi-elasticity and the output gap,

has been fairly limited in 2013 and 2014. The two graphs also suggest that, for most countries except

Bulgaria, Germany, Italy and Luxembourg, the budget balance based on revised elasticities is slightly

more responsive to the business cycle. By definition, the magnitude of the revision depends on both the

size of the revision of the budgetary semi-elasticity and the value of the output gap. A one-percent output

gap leads to a revision in the CAB of at most 0.6 pp, which corresponds to the maximum value of the

budgetary semi-elasticity in the EU. The overall impact on cyclically-adjusted values can be larger

(smaller) in years when the output gap is above (below) one in absolute value.

Graph

4.4: Cyclical components of the budget balance in 2013 using former and revised individual elasticities

Source:

Commission services.

2011 2012 2013 2014 2015 2011 2012 2013 2014 2015 2011 2012 2013 2014 2015

-0.1 0.3 1.4 -0.2 0.2 -0.2 0.3 1.4 -0.2 0.2 0.0 0.0 0.0 0.0 0.0

0.7 1.5 -0.8 -2.3 0.2 0.7 1.5 -0.8 -2.3 0.2 0.0 0.0 0.0 0.0 0.0

1.4 -0.6 3.2 -0.5 -1.2 1.4 -0.6 3.2 -0.5 -1.2 0.0 0.1 0.1 0.0 0.0

0.2 -1.1 3.4 -0.4 -1.8 0.1 -1.1 3.4 -0.4 -1.8 0.0 0.0 0.0 0.0 0.0

1.8 1.4 0.7 0.1 -0.1 1.9 1.4 0.6 0.1 -0.1 0.0 0.0 0.0 0.0 0.0

-1.0 -2.2 0.0 0.2 0.0 -2.0 -2.6 0.0 0.3 0.2 -0.9 -0.4 0.1 0.1 0.1

-14.2 4.9 2.7 0.9 0.4 -15.8 4.9 2.7 0.8 0.3 -1.6 0.0 0.0 -0.1 0.0

3.8 3.1 -3.5 9.2 -0.6 3.9 3.1 -3.5 9.2 -0.7 0.1 0.0 0.0 0.0 0.0

0.5 -0.2 3.8 0.4 0.1 0.5 -0.1 3.8 0.4 0.0 0.1 0.1 0.0 -0.1 -0.1

1.2 0.6 1.1 0.0 0.0 1.1 0.6 1.2 0.0 0.0 -0.1 0.0 0.0 0.0 0.0

-1.7 2.6 0.6 -0.3 0.0 -1.7 2.7 0.7 -0.3 -0.1 0.0 0.1 0.0 0.0 0.0

2.8 1.1 1.0 -0.1 -0.3 2.6 1.1 1.0 -0.1 -0.3 -0.2 0.0 0.0 0.0 0.0

-0.7 0.7 2.6 2.4 -0.8 -0.7 0.8 2.8 2.5 -0.9 0.0 0.1 0.2 0.1 -0.1

3.2 1.3 -0.8 -0.4 -0.2 2.8 1.0 -1.0 -0.4 -0.2 -0.3 -0.3 -0.2 0.0 0.0

-3.6 5.0 0.2 1.4 -0.3 -4.1 4.7 0.1 1.4 -0.3 -0.5 -0.3 -0.1 0.0 0.0

0.6 0.8 0.5 -0.9 -0.7 0.6 0.8 0.5 -0.9 -0.7 0.0 0.0 0.0 0.0 0.0

-1.8 3.8 -0.6 -1.3 -0.3 -1.8 3.9 -0.6 -1.4 -0.3 0.0 0.0 0.0 0.0 0.0

0.5 -0.9 0.9 0.1 -0.2 0.5 -0.9 0.9 0.1 -0.2 0.0 0.0 0.0 0.0 0.0

0.2 1.4 2.2 -0.5 -0.2 0.1 1.6 2.2 -0.5 -0.3 -0.1 0.1 0.1 0.0 -0.1

0.8 0.4 1.1 -1.2 1.0 0.6 0.4 1.2 -1.2 1.0 -0.2 0.0 0.1 0.0 0.0

2.5 1.8 0.3 0.6 0.6 2.4 2.0 0.4 0.5 0.6 -0.1 0.2 0.2 0.0 0.0

4.6 3.1 0.8 -0.7 0.9 4.7 3.2 0.8 -0.8 0.8 0.1 0.1 0.0 -0.1 -0.1

1.3 2.8 0.2 0.0 -0.8 1.3 2.8 0.2 0.0 -0.8 0.0 0.0 0.0 0.0 0.0

-0.9 3.6 -10.4 9.2 0.9 -0.9 3.6 -10.4 9.2 0.9 0.0 0.0 0.0 0.0 0.0

3.7 0.3 1.9 -0.3 0.4 3.8 0.4 1.9 -0.3 0.4 0.1 0.1 0.1 0.0 0.0

0.4 -0.3 0.3 -0.3 0.0 0.3 -0.3 0.3 -0.3 0.0 -0.1 0.1 0.1 0.0 0.0

-0.8 0.1 -0.3 -1.2 0.3 -0.8 0.1 -0.3 -1.2 0.3 0.0 0.0 0.0 0.0 0.0

1.7 -0.7 2.2 -0.4 0.6 1.6 -0.6 2.1 -0.6 0.5 -0.1 0.0 -0.1 -0.2 -0.1

EU 28

0.2 1.2 0.5 0.5 -0.1 0.1 1.2 0.5 0.5 -0.1 -0.1 0.0 0.0 0.0 0.0

EA 18

0.3 1.3 0.5 0.5 -0.1 0.1 1.3 0.5 0.5 -0.1 -0.1 0.0 0.0 0.0 0.0

Annual variation i n the cyclicall y-adjusted budget balance

using 2005 e lasticiti es

Annual variation i n the cyclicall y-adjusted budget balance

using 2014 e lasticiti es

Difference

4. Computing the budgetary semi-elasticity and the cyclically-adjusted budget balance

Graph

4.5: Cyclical components of the budget balance in 2014 using former and revised individual elasticities

Source:

Commission services.

For specific countries in specific years, however, the revision of the cyclical components can be non-

negligible. For 2013 (mostly hard data), the largest revisions are observed for Spain, Cyprus, Estonia, the

Netherlands and the United Kingdom. For 2014 (partly forecast), the largest revisions are observed for

Cyprus and Spain. This corresponds, by definition, to the mirror image of the CAB in these countries for

these years.

REFERENCES

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on the ESCB Disaggregated Approach, International Journal of Central Banking 8(2).

Barrios, S. and R. Fargnoli (2010), Discretionary Measures and Tax Revenues in the Run-up to the

Financial Crisis, European Economy, Economic Papers 419.

Blanchard, O. (1990), Suggestions for a New Set of Fiscal Indicators, OECD Economics Department

Working Paper 79.

Bouthevillain, C., Cour-Thimann, P., Van den Dool, G., Hernandez de Cos, P., Langenus, G., Mohr, M.,

Momigliano, S. and M. Tujula (2001), Cyclically Adjusted Budget Balances: An Alternative Approach,

ECB Working Paper Series 77.

Belinga V., D. Benedek, R. A. de Mooij and J. Norregaard (2014), Tax Buoyancy in OECD Countries,

IMF Working Paper 110.

D'Auria, F., Denis, C., Havik, K., Mc Morrow, K., Planas, C., Raciborski, R., Roeger, W. and A. Rossi

(2010), The production function methodology for calculating potential growth rates and output gaps,

European Economy, Economic Papers 420.

Escolano, J. (2010), A Practical Guide to Public Debt Dynamics, Fiscal Sustainability, and Cyclical

Adjustment of Budgetary Aggregates, IMF Technical Note and Manuals 10/02.

European Commission (2005), New and updated budgetary sensitivities for the EU Budgetary

Surveillance, September.

http://ec.europa.eu/economy_finance/economic_governance/sgp/pdf/budg_sensitivities_092005_v02_en.

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European Commission (2006), Public Finances in EMU, European Economy 3.

Giorno, C., Richardson, P. and P. Van den Noord (1995), Estimating Potential Output, Output Gaps and

Structural Budget Balances, OECD Economics Department Working Papers 24.

Girouard, N. and C. Andre (2005), Measuring Cyclically-Adjusted Budget Balances for the OECD

Countries, OECD Economics Department Working Papers 434.

Havik, K., Mc Morrow, K., Orlandi, F., Planas, C., Raciborski, R., Röger, W., Rossi, A., Thum-Thysen,

A. and V. Vandermeulen (2014), The production function methodology for calculating potential growth

rates and output gaps, European Economy. Economic Papers forthcoming (November/December 2014).

Kremer, J., Rodrigues Braz, C., Brosens, T., Langenus, G., Momigliano, S. and M. Spolander (2006), A

Disaggregated Framework for the Analysis of Structural Developments in Public Finances, ECB Working

Paper Series 579.

Larch, M. and A. Turrini (2009), The Cyclically Adjusted Budget Balance in EU Fiscal Policymaking: A

Love at First Sight Turned into a Modern Relationship, European Economy, Economic Papers 374.

Mourre, G., G.-M. Isbasoiu, D. Paternoster and M. Salto (2013), The cyclically-adjusted budget balance

used in the EU fiscal framework: an update, European Economy, Economic Papers 478.

References

OECD (2014), New tax and expenditure elasticity estimates for EU budget surveillance, OECD

Economics Department Working Papers 1174, forthcoming.

Princen, S., Mourre, G., Paternoster, D. and Isbasoiu, G.-M. (2013), Discretionary tax measures: pattern

and impact on tax elasticities, European Economy, Economic Papers 499.

Princen, S. and G. Mourre (2014), Short-term developments of revenue elasticities: insights from an EU

country panel, unpublished note presented to the Economic Policy Committee's Output Gap Working

Group.

Van den Noord, P. (2000), The Size and Role of Automatic Fiscal Stabilizers in the 1990s and Beyond,

OECD Economics Department Working Papers 230.

APPENDIX 1

Steps to derive the semi-elasticities of the budget balance to the output

gap and data sources

Table

A.1: Elasticities of individual revenue and expenditure categories

Note:

See Section 3 for information on the estimation of individual revenue and expenditure elasticities.

Source:

OECD (2014).

Personal income

tax

Corporate

income tax

Social security

contributions

Indirect taxes Non-tax revenue

Unemployment-

expenditure

Earnings-related

expenditure

Other

expenditure

(A) (B) (C) (D) E) (F) (G) (H)

1.31 2.48 0.71 1.00 0.00 -3.70 0.00 0.00

1.15 2.13 0.61 1.00 0.00 -3.91 0.00 0.00

1.65 1.78 0.86 1.00 0.00 -2.45 0.00 0.00

1.00 3.15 0.41 1.00 0.00 -4.97 0.00 0.00

1.87 1.91 0.60 1.00 0.00 -3.30 0.00 0.00

1.58 1.78 1.40 1.00 0.00 -5.18 0.00 0.00

1.58 1.25 1.04 1.00 0.00 -5.45 0.00 0.00

2.22 1.90 0.58 1.00 0.00 -3.15 0.00 0.00

1.84 1.56 0.72 1.00 0.00 -5.83 0.00 0.00

1.86 2.76 0.63 1.00 0.00 -3.23 0.00 0.00

1.71 2.29 0.70 1.00 0.00 -2.39 0.00 0.00

1.46 3.07 0.58 1.10 0.00 -2.29 0.00 0.00

2.28 2.26 0.91 1.00 0.00 -3.08 0.00 0.00

1.50 1.99 0.81 1.00 0.00 -3.94 0.00 0.00

1.79 1.67 1.04 1.00 0.00 -5.60 0.00 0.00

1.34 2.36 0.39 1.00 0.00 -3.06 0.00 0.00

1.73 2.21 0.76 1.00 0.00 -1.25 0.00 0.00

2.07 2.11 0.71 1.00 0.00 -1.96 0.00 0.00

2.37 3.13 0.62 1.00 0.00 -5.76 0.00 0.00

1.66 2.74 0.65 1.00 0.00 -4.71 0.00 0.00

1.88 2.92 0.97 1.00 0.00 -6.18 0.00 0.00

1.97 1.33 0.79 1.00 0.00 -6.04 0.00 0.00

1.29 2.02 0.62 1.00 0.00 -3.91 0.00 0.00

1.63 3.76 0.66 1.00 0.00 -2.81 0.00 0.00

1.93 1.58 0.89 1.00 0.00 -2.98 0.00 0.00

1.41 2.03 0.77 1.00 0.00 -3.66 0.00 0.00

1.32 1.56 0.71 1.00 0.00 -4.42 0.00 0.00

1.68 3.92 0.60 1.00 0.00 -4.21 0.00 0.00

Revenue

Expenditure

Appendices

Table

A.2: Shares of revenue categories (% of total revenues) and shares of expenditure categories (% of total expenditure), average

2002-2011

Note and data explanation:

The shares are those computed in Mourre et al. (2013).

i) The

data for non-tax revenue come from the AMECO database (Autumn 2012 vintage). Their share is computed as the relative difference between

the ten

-year average (2002-11) of total taxes (including imputed social security contributions) (code UTTT) and of total revenue of general

government

(code URTG).

ii) The data for the main tax components (personal income tax

es, corporate income taxes, social security contributions and indirect taxes) come from

the OECD Economic Outlook database (codes used: TYH, TYB, SSRG

, TIND), which uses concepts consistent with the ESA95 national accounts

(but does not include the tax transfer from th

e EU) and with the data used in Girouard and André (2005). The OECD Economic Outlook database

corresponds t

o Economic Outlook No. 92, released in Mid-December 2012. This source should be distinguished from the OECD Revenue Statistics,

which use

another classification than ESA95. For BG, HR, CY, LV, LT, MT and RO, for which the OECD Economic Outlook data are not available,

the

AMECO database is used (codes used: UTYH, UTYC, UTAG, UTVT). For HR, which joined the EU in July 2013, the Spring 2013 vintage of the

AMECO database i

s used

for the major revenue categories (direct taxes, indirect taxes and social security contributions) and IMF data for the

breakdown of direct taxes in personal income taxes and corporate income taxes

. Data for HR start in 2009. For MT, the data are computed as the

simple

arithmetic average of EU-9 (i.e. other Member States that joined the EU in 2004). For EL and LU, sources are combined (AMECO database for

personal income tax

es, corporate income taxes and OECD Economic Outlook for indirect taxes and social security contributions) and data are rescaled

to ensure that all revenue components add up to 100%, as for the other Member States.

For LU, data are only available for the period 2006-2009 for all

tax categories.

iii) The data for unem

ployment-related expenditure come from the Eurostat database on 'General government expenditure by function' (COFOG99),

with the excep

tion of BE, SK and RO where data are not available. Most COFOG data end in 2010, except for DK, DE, FR and AT, covering also

2011. Data for LV start

in 2007 instead of 2002. Because of the broader concept of unemployment-related expenditure used by DK and because of the

need to ensure a

n equal treatment with other Member States, the figure for DK was adjusted to match the OECD database on Labour Market

Programmes

('Public expenditure and participant stocks on LMP') used to estimate the individual elasticities. In the Eurostat COFOG database

unemployment

-related expenditure is defined as a: 'Provision of social protection in the form of cash benefits and benefits in kind to persons who are

capable of work, available for work but are unable to find suitable employment; administration, operation or support of such

social protection

schemes; cash benefits, such as full and partia

l unemployment benefits, early retirement benefits paid to older workers who retire before reaching the

standard retirement age due to unemployment or job reduction caused by economic measures, allowances to targeted groups in th

e labour force who

take par

t in training schemes intended to develop their potential for employment, redundancy compensation, other periodic or lump-sum payments to

the unemployed, particularly the long

-term unemployed; benefits in kind, such as mobility and resettlement payments, vocational training provided to

persons without a job or retraining provided to persons at risk of losing their job, accommodation, food or clothes provided

to unemployed persons

and their families.

' This excludes general programs or schemes directed towards increasing labour mobility, reducing the rate of unemployment or

promoting the employment of disadvant

aged or other groups characterised by high unemployment; cash benefits and benefits in kind paid to

unemployed persons on reaching the standard retireme

nt age. For BE and SK, 'passive expenditures' (category 10) of the OECD database on Labour

Market Programmes

is used. This encompasses full unemployment benefits, partial unemployment benefits, the redundancy compensation, the

bankruptcy compensation and e

arly retirement. For HR and RO, 'total social protection benefits for the unemployment function' of the Eurostat

data

base on social protection (ESSPROS) is used, covering up to 2010. For HR, the data start in 2008.

iv)

An inaccuracy in the computation of the revenue shares in Mourre et al. (2013) was adjusted for CY, LV, LT, LU, MT and RO. Changes were only

limited

Source:

OECD, AMECO and Commission services.

Pers onal

income tax

Corporate

income tax

Soci al security

contributions

Indirect taxes

Non-tax

revenue

Unemployment-

expenditure

Earnings-

expenditure

Other

expenditure

(I) (J) (K) (L) (M) (N) (O) (P)

27.43 6.68 33.92 26.61 5.36 4.46 5.61 89.93

6.11 5.29 24.81 44.23 19.56 0.70 5.27 94.03

10.68 10.25 39.05 27.44 12.58 0.74 4.62 94.65

47.85 6.11 3.57 31.14 11.33 2.82 13.36 83.82

20.25 5.74 40.06 24.99 8.96 6.22 4.56 89.22

16.31 3.55 30.50 35.00 14.64 1.89 4.83 93.28

24.30 9.77 18.45 35.76 11.72 4.32 9.56 86.12

12.83 7.99 33.69 31.20 14.29 1.66 1.98 96.35

19.55 8.38 34.57 28.91 8.59 4.89 2.18 92.93

17.62 4.96 37.14 30.70 9.59 3.46 7.67 88.87

7.25 9.09 29.49 43.23 10.94 0.80 0.00 99.20

25.70 6.17 29.40 31.77 6.95 1.18 2.34 96.47

11.12 15.99 19.97 37.98 14.94 1.28 7.96 90.76

17.65 5.52 24.96 34.30 17.56 1.70 3.16 95.14

18.48 5.60 27.40 35.58 12.94 1.48 4.81 93.71

16.03 15.38 28.78 31.61 8.20 2.46 10.14 87.40

16.41 4.28 29.15 35.84 14.32 1.15 8.77 90.08

13.74 7.79 30.89 35.00 12.58 1.35 3.96 94.69

18.65 7.08 33.13 27.50 13.63 3.87 6.38 89.75

22.55 4.86 33.50 29.96 9.13 2.56 6.64 90.80

12.52 6.28 31.00 35.07 15.13 2.08 3.67 94.25

14.02 7.91 29.09 34.21 14.77 2.18 3.76 94.06

10.47 8.55 29.74 37.09 14.14 1.14 5.23 93.63

14.54 4.88 33.80 34.39 12.40 1.36 6.05 92.59

9.60 8.43 37.88 32.83 11.26 1.06 5.82 93.12

26.13 6.71 23.41 25.81 17.93 4.98 7.85 87.17

32.11 5.69 18.33 31.95 11.92 3.32 7.37 89.30

31.79 8.24 20.71 31.81 7.45 0.78 10.48 88.74

Revenue

Expendi ture

Appendices

Table

A.3: Decomposition of the semi-elasticity of budget balance to output gap

Note:

The parameters (a) and (b) are derived from Tab les A1 and A2; a = (A * I + B * J + C * K + D * L + E * M) / 100; b = F * N + G * O + H * P /

100. The total revenue and expenditure as a percentage of GDP (columns e and f) correspond to the "Excessive Imbal

ance Procedure" definition, as

explained in more detail in

Mourre et al. (2013).

Source:

Commission services.

Revenue level

Expenditure

level

Revenue-to-GDP

ratio

Expenditure-to-

GDP rati o

Total revenue

Total

expenditure

Revenue Expe ndi tu re Budget balan ce

( a ) ( b ) c = a-1 d = b-1 ( e ) ( f ) g = c*e h = d*f i = g-h

BE 1.03 -0.17 0.03 -1.17 49.05 50.70 0.015 -0.591 0.605

BG 0.78 -0.03 -0.22 -1.03 37.75 38.10 -0.084 -0.391 0.308

CZ 0.97 -0.02 -0.03 -1.02 39.91 43.77 -0.012 -0.446 0.433

DK 1.00 -0.14 0.00 -1.14 55.75 54.34 -0.001 -0.620 0.619

DE 0.98 -0.21 -0.02 -1.21 44.00 46.45 -0.009 -0.560 0.551

EE 1.10 -0.10 0.10 -1.10 37.63 36.99 0.037 -0.406 0.443

IE 1.05 -0.24 0.05 -1.24 35.20 41.14 0.019 -0.508 0.528

EL 0.94 -0.05 -0.06 -1.05 39.93 48.06 -0.023 -0.506 0.483

ES 1.03 -0.28 0.03 -1.28 38.14 41.13 0.011 -0.528 0.539

FR 1.00 -0.11 0.00 -1.11 49.90 54.11 0.002 -0.601 0.603

HR 0.97 -0.02 -0.03 -1.02 40.48 46.96 -0.011 -0.479 0.467

IT 1.08 -0.03 0.08 -1.03 45.14 48.77 0.038 -0.501 0.539

CY 1.18 -0.04 0.18 -1.04 40.27 43.47 0.071 -0.452 0.523

LV 0.92 -0.07 -0.08 -1.07 35.08 38.26 -0.028 -0.408 0.380

LT 1.07 -0.08 0.07 -1.08 32.92 36.13 0.022 -0.391 0.413

LU 1.01 -0.08 0.01 -1.08 41.87 41.09 0.003 -0.442 0.445

HU 0.96 -0.01 -0.04 -1.01 44.97 50.33 -0.019 -0.511 0.492

MT 1.02 -0.03 0.02 -1.03 39.48 43.74 0.007 -0.449 0.456

NL 1.15 -0.22 0.15 -1.22 45.25 47.37 0.066 -0.579 0.646

AT 1.02 -0.12 0.02 -1.12 48.49 50.77 0.012 -0.569 0.580

PL 1.07 -0.13 0.07 -1.13 38.78 43.79 0.027 -0.494 0.521

PT 0.95 -0.13 -0.05 -1.13 41.08 46.42 -0.019 -0.525 0.506

RO 0.86 -0.04 -0.14 -1.04 32.97 36.78 -0.045 -0.384 0.339

SI 0.99 -0.04 -0.01 -1.04 43.46 46.49 -0.006 -0.483 0.477

SK 0.99 -0.03 -0.01 -1.03 34.23 38.62 -0.005 -0.398 0.393

FI 0.94 -0.18 -0.06 -1.18 53.13 51.08 -0.030 -0.604 0.574

SE 0.96 -0.15 -0.04 -1.15 53.99 53.13 -0.020 -0.609 0.590

UK 1.30 -0.03 0.30 -1.03 40.36 45.60 0.120 -0.471 0.591

Elasticity of:

Weights (% of GDP) of:

Se mi-elasti city for:

APPENDIX 2

Additional information on elasticities of revenue to base

Table

A.4: Construction of revenue and expenditure bases

Source:

OECD (2014).

Table

A.5: Elasticities of revenue with respect to their base per income item for personal income taxes and social security contributions

Source:

OECD (2014).

Revenue/expenditure

category

Base defi nition Variables and codes used Source

Wages and salar ies Compensation of employ ees, value (WSSS) OECD Economic Outlook No.95/AMECO

Self-emp loyment income Self-employment income received by households, value (YSE) OECD Economic Outlook No.93/AM ECO

Cap ital income Prop erty income received by households, value (YPE) OEC D Analy tical Datab ase/AM ECO

Corporate income taxe s Gross operating surp lus GDP - TIND + TSUB - WSSS

Gross domestic p roduct, value, market prices (GDP) OECD Economic Outlook No.93/AM ECO

Taxes on production and imports, value (TIND ) OECD Economic Outlook No.93/AMECO

Subsidies, value (TSUB) OECD Analyt ical Database/A MECO

Compensation of employ ees, value (WSSS) OECD Economic Outlook No.95/AMECO

Soci al security

contributions Wages and salaries Comp ensation of employ ees, value (WSSS) OECD Economic Outlook No.95/AMECO

Indirect taxes Private consumpt ion

Private final consumption expenditure, value, GDP

expenditure approach (CP)

OECD Economic Outlook No.93/AMECO

Unemployment-re lated

expenditure

Unit ary elast icity assump tion Unemployment rat e (UNR) OECD Economic Outlook No.95/AMECO

Personal i ncome taxes

Wages and salarie s Self-e mployment income Capital income

Wages and salarie s

(employee )

Wages and salarie s

(employer)

1.63 1.39 1.69 1.30 1.00

1.07 1.02 1.60 0.95 0.91

2.24 2.24 1.77 0.98 1.00

1.44 1.38 1.39 0.70 0.00

1.90 1.87 1.74 0.76 0.97

1.46 1.45 1.46 1.00 1.40

2.11 1.61 1.81 1.49 1.41

2.30 2.14 1.59 0.76 0.86

1.93 1.48 1.83 0.88 0.82

1.73 1.69 1.38 0.91 0.96

1.77 1.72 1.60 1.00 1.00

1.84 1.89 1.75 1.00 0.96

2.31 2.27 1.60 1.00 1.00

1.29 1.24 1.60 1.00 1.00

1.45 1.40 1.60 1.00 1.00

2.28 1.92 1.86 0.90 0.93

1.84 1.74 1.50 1.00 0.99

2.16 2.11 1.60 0.60 1.01

2.15 1.84 1.20 0.75 0.71

2.00 1.85 1.70 0.85 0.99

1.96 1.84 1.51 0.96 0.98

2.22 1.73 1.91 1.00 1.00

1.35 1.30 1.60 1.00 0.99

2.15 2.19 1.64 1.00 1.00

2.47 2.20 1.93 0.97 0.98

1.50 1.43 1.32 1.02 1.00

1.45 1.21 1.17 0.69 1.00

1.50 1.49 1.48 0.97 1.33

EU-28

1.84 1.70 1.60 0.94 0.97

Personal i ncome taxes

Soci al security contribution s

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A reassessment of discretionary tax policy in the European Union: A cyclically-adjusted approach

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Full-text available

Mar 2024

An extensive economic literature has investigated the cyclical behaviour of the budget balance in response to the business cycle. However, little is known about the behaviour of one of its two main components, i.e. tax revenue. We shed new light on this issue by focusing on a panel of 27 EU countries for the period 1995-2022. Using a novel empirical strategy to pre-adjust each revenue item for the business cycle, we study the behaviour of personal income tax, corporate income tax, indirect taxes, social security contributions, and non-tax revenues. Considering different econometric techniques, we find a general and stable pro-cyclical behaviour for all tax items in the EU, except for corporate income tax. This behaviour is then analysed with the varyingcoefficient model, assessing the impact of a novel variable combining the stringency of the European fiscal framework and the debt-to-GDP ratio. Generally, this indicator seems to have intensified the procyclical trend of each revenue item.

Fiscal consolidation and its growth effects in euro area countries: Past, present and future outlook

Article

Full-text available

Mar 2025

Philipp Heimberger

This paper is about fiscal consolidation measures (i.e. tax hikes and government spending cuts motivated by a desire to reduce the fiscal deficit and public debt) in euro area (EA) countries. The focus is on analysing the growth effects of fiscal adjustments as well as their implications for debt sustainability assessments. I discuss the size and composition of fiscal consolidation by distinguishing three periods: the run-up to the EA, when governments faced the Maastricht criteria for joining the monetary union (1992-1998); before and during the recession triggered by the global financial crisis (1999-2009); and the euro crisis (with a specific focus on the 2011-2013 period). The empirical evidence on the growth effects of fiscal consolidation shows that while fiscal adjustments are contractionary, the negative growth effects were particularly strong and persistent during the euro crisis. With regard to the austerity outlook, I show that, beginning in 2025, EA countries are set to implement fiscal consolidations over multiple years so as to meet reformed EU fiscal rules. The adjustment requirements for some member countries are large in historical comparison. The paper argues that the framework for debt sustainability analysis at the heart of the reformed EU fiscal rules downplays the domestic growth impacts of fiscal adjustments and ignores crosscountry spill-overs that magnify domestic growth effects. In all likelihood, the reformed framework underestimates the negative growth effects of fiscal consolidation. I conclude that implementing the multi-year fiscal adjustments required to meet EU fiscal rules may not reduce public debt ratios across the EA's member countries, as the European Commission expects, and that the economic and political implications of austerity may complicate the governance of a fragile EA.

Measuring time-varying fiscal cyclicality of the revenue side with a new cyclically-adjusted methodology: Does the European fiscal framework play a pivotal role?

Preprint

Full-text available

Mar 2025

This study investigates the cyclicality of tax revenues in 27 European Union countries from 1995 to 2019, employing a novel methodology that adjusts each tax revenue item for the business cycle. We provide new insights into the cyclical nature of various revenue categories and introduce a unique methodological framework: using both ex-post and real-time approaches, our estimates show widespread pro-cyclicality. The use of a time-varying cyclicality coefficient model enables to determine that the progressive tightening of the European fiscal framework has played an important role in shaping fiscal pro-cyclicality on the revenue side, especially in the real-time approach. The latter captures the pro-cyclical bias that is otherwise corrected in ex-post estimation. The revised version of the Stability and Growth Pact appears to have preserved the core mechanisms of its predecessor. This suggests that the pro-cyclical challenges identified during the 1995-2019 period are likely to endure in the future.

Fiscal consolidation and its growth effects in euro area countries: Past, present and future outlook

Preprint

Full-text available

Oct 2024

Philipp Heimberger

This paper is about fiscal consolidation measures (i.e. tax hikes and government spending cuts motivated by a desire to reduce the fiscal deficit and public debt) in euro area (EA) countries. The focus is on analysing the growth effects of fiscal adjustments as well as their implications for debt sustainability assessments. I discuss the size and composition of fiscal consolidation by distinguishing three periods: the run-up to the EA, when governments faced the Maastricht criteria for joining the monetary union (1992-1998); before and during the recession triggered by the global financial crisis (1999-2009); and the euro crisis (with a specific focus on the 2011-2013 period). The empirical evidence on the growth effects of fiscal consolidation shows that while fiscal adjustments are contractionary, the negative growth effects were particularly strong and persistent during the euro crisis. With regard to the austerity outlook, I show that, beginning in 2025, EA countries are set to implement fiscal consolidations over multiple years so as to meet reformed EU fiscal rules. The adjustment requirements for some member countries are large in historical comparison. The paper argues that the framework for debt sustainability analysis at the heart of the reformed EU fiscal rules downplays the domestic growth impacts of fiscal adjustments and ignores cross-country spill-overs that magnify domestic growth effects. In all likelihood, the reformed framework underestimates the negative growth effects of fiscal consolidation. I conclude that implementing the multi-year fiscal adjustments required to meet EU fiscal rules may not reduce public debt ratios across the EA’s member countries, as the European Commission expects, and that the economic and political implications of austerity may complicate the governance of a fragile EA.

The Cyclically-Adjusted Primary Balance: Mixed Approach Fiscal Policy Analysis for 18 Industrialized Countries of OECD

Conference Paper

Full-text available

Nov 2022

This study aims to provide real-time fiscal policy analysis by estimating the cyclically-adjusted primary balance for 18 industrialized countries in europe, north america and asia pacific in OECD. We develop Bayesian estimation to generate results that represented at the time fiscal policy was conducted as well as to overcome bias problem from small sample. Combination of real-time analysis and disag-gregated outcome marks significant improvement with respect to previous studies. Between 1996-2009 of real-time data on selected budgetary items is analyzed by empirical approach. Commonly, most countries applied prudential fiscal framework by using different budgetary items that recognize as automatic stabilizer on economic cycle to cushion overheating or recession effects. We find that the outcome from such policy is counter cyclical fiscal policy in most cases and counter cyclical of discretionary fiscal policy impact minimize to economic cycle. Our most counterin-tuitive policy conclusion is that, although automatic stabilizers have typically acted anticyclically in almost all nations in our sample, government discretionary efforts have seldom reduced this impact. Furthermore, Policy discretion Fiscal policy may be still influenced by policymakers rather than institutional pro-cyclical behavior. The Christiano-Fitzgerald de-trending techniques support the conclusions.

Potential Output and Cyclically Adjusted Balance: An Application of the Updated Okun Method to Spain (1987–2022)

Article

Mar 2024

The estimation of potential output is at the heart of the ongoing debate on the reformulation of fiscal rules in the European Union as it is an essential variable for their application. Spain constitutes a striking case, with a small and even positive output gap along with one of the highest unemployment rates in the European Union. To resolve this contradiction, in this article we estimate the potential output of the Spanish economy for the period 1987Q2–2022Q4 by means of the Updated Okun Method. Our results indicate that both the output gap and the cyclically adjusted balance are much higher than what European institutions estimate. Consequently, Spain has much more fiscal space to implement expansionary fiscal policies.

ECONOMIC ARCHIVE / Scientific Journal / YEAR LXXV, ISSUE 2 - 2023 (5 full-text articles in English); ISSN: 0323-9004-Book Edition; ISSN: 2367-9301-Electronic Edition, URL: https://nsarhiv.uni-svishtov.bg/; DOI https://doi.org/10.58861/tae.ea-nsa.2023.2.eng

Cover Page

Full-text available

Jun 2023

Andrey Zahariev

Nordic Economic Policy Review 2024: Fiscal Policy in Uncertain Times

Book

Full-text available

Jan 2024

An analysis of COFOG expenditures in former Yugoslavian countries

Article

Full-text available

Jun 2023

In this paper, we carry out an in-depth analysis of public expenditure in all former Yugoslavian countries. Our purpose is threefold: first, to verify the existence of common patterns of spending; second, to investigate the cyclicality hypothesis of fiscal policy in non-OECD countries; and third, to analyse both political and economic determinants of expenditure composition. Our results show a weak convergence in structures, the countercyclical behaviour of public expenditures, and the influence of electoral cycles, business cycles, and the degree of nationalization of party systems on the composition of public expenditure.

Fiscal Situation in the COVID-19 Aftermath

Chapter

May 2023

Milan Bednář

The chapter provides general information about the fiscal conditions of the EU4 countries. First, it shows the main fiscal indicators of the EU4 countries. Second, it presents estimates of structural budget balances, examines their development, and derives characteristics of the EU4 fiscal policies. The results are compared to the estimates of major international institutions—the IMF, OECD, and European Commission. Several estimates need to be performed to be able to extract relevant information. The text describes the procedures used. Third, it evaluates the countries’ positions from a long-term view using a fiscal sustainability analysis.KeywordsSouthern EU countriesEU4 economiesFiscal analysisFiscal positionsStructural budget balancesOutput gapsDebt dynamicsDebt sustainabilityDebt projections

The Production Function Methodology for Calculating Potential Growth Rates & Output Gaps

Article

Full-text available

Nov 2014

This paper provides a detailed description of the current version of the Ecofin Council approved production function (PF) methodology which is used for assessing both the productive capacity (i.e. potential output) and cyclical position (i.e. output gaps) of EU economies. Compared with the previous 2010 paper on the same topic, there have been two significant changes to the PF methodology, namely an overhaul of the NAWRU methodology & the introduction of a new T+10 methodology.

A Practical Guide to Public Debt Dynamics, Fiscal Sustainability, and Cyclical Adjustment of Budgetary Aggregates

Article

Full-text available

Jan 2010

Julio Escolano

Discretionary Fiscal Policies over the Cycle: New Evidence Based on the ESCB Disaggregated Approach

Article

Full-text available

Nov 2009

This paper explores how discretionary fiscal policies on the revenue side of the government budget have reacted to economic fluctuations in European Union countries. For this purpose, it uses data on legislated revenue changes and structural indicators provided twice per year by National Central Banks of European Union countries in the ESCB framework for analysing fiscal policy. The analysis is based on the estimation of fiscal policy rules linking these measures of legislated fiscal policy changes to the output gap and other control variables. Then, baseline results are compared with regression estimates where variations of cyclically-adjusted indicators are used as proxy for discretionary fiscal policies, as conventionally proposed in the empirical literature on fiscal policy. Results suggest that, overall, legislated changes in taxes and social security contributions have responded in a strongly pro-cyclical way to the business cycle, while commonly-used cyclical-adjustment methods point to a-cyclicality.

The Cyclically-Adjusted Budget Balance in EU Fiscal Policy Making: A Love at First Sight Turned into a Mature Relationship

Article

Full-text available

Jan 2009

The cyclically-adjusted budget balance (CAB) plays a key role in the fiscal surveillance framework of the Economic and Monetary Union. It started off in a supporting role in the shadow of the headline deficit and, before long, turned into the linchpin of the rules and requirements of the Stability and Growth Pact. The steep ascent was driven by high hopes and expectations which, with the passing of time were only partly met. The everyday practice of the EU fiscal surveillance rapidly revealed a number of caveats of the instrument which, at times, hampered the effectiveness of fiscal surveillance. This paper provides a comprehensive review of the changing fortunes of the CAB in the EU fiscal surveillance framework. It portrays its main shortcomings and the way they can be dealt with in practice. As an overall conclusion the paper argues that, although the CAB is not devoid of problems and imperfections, it is superior to the headline deficit in most respects.

Discretionary measures and tax revenues in the run-up to the financial crisis

Article

Full-text available

Jan 2010

Summary for non-specialistsThis paper examines the influence of governments' discretionary measures on tax revenues and tax elasticity in the European Union during the run-up to the 2008/2009 global financial crisis which was characterised by large swings in tax revenues.Using data collected in the context of the Output Gap Working Group of the Economic Policy Committee we show that while discretionary measures have had a limited impact on tax yields, they have in some cases significantly affected tax elasticities and thereby altered the relationship between tax revenues and the business cycle which plays a key role in the EU fiscal surveillance framework. Furthermore we provide evidence on the pro-cyclical nature of discretionary measures affecting tax revenues whereby governments tend to implement tax cuts during expansionary phases while resorting to tax increases during slowdowns. More generally our results suggest that the availability of detailed projections on the impact of discretionary measures by broad tax category would be instrumental to a better monitoring of tax revenues developments in the EU in order to better identify the role played by non-policy factors (such as asset prices) in driving tax revenues. Given that the time span covered by this database is in most cases still relatively short (covering on average 7 to 8 years) future updates of the data would allow to further dig into the issue of the influence of discretionary measures on tax elasticities as well as to provide elements for a backward assessment of fiscal plans vs. outcome.

Potential output, output gaps and structural budget balances

Article

Full-text available

Feb 1995

This paper reviews the methods used for estimating potential output in OECD countries and the use of the resulting output gaps for the calculation of structural budget balances. The "split time trend" method for estimating trend output that was previously used for calculating structural budget balances is compared with two alternative methods, smoothing real GDP using a Hodrick Prescott filter and estimating potential output using a production function approach. It is concluded that the production function approach for estimating potential output provides the best method for estimating output gaps and for calculating structural budget balances, with the results obtained by smoothing GDP providing a cross check. New tax and expenditure elasticities, along with the potential output gaps, are used to derive structural budget balances ... Estimation de la production potentielle, des écarts du production et les soldes budgétaires structurels Ce document passe en revue les différentes méthodes utilisées pour estimer la production potentielle dans les pays de l’OCDE et l’utilisation des écarts de production qui a dêcoulent pour le calcul des soldes budgétaires structurels. La méthode utilisant la segmentation de la tendance temporelle pour estimer la production potentielle et qui servait précédemment á calculer les soldes budgétaires structurels est comparée à deux autres méthodes : le lissage du PIB réel à l’aide d’un filtre Hodrick-Prescott et l’estimation de la production potentielle sur la base d’une fonction de production. Il en ressort que l’estimation de la production potentielle par l’approche fonction de production a s’avère être la meilleure méthode pour estimer les écarts de production et pour calculer les soldes budgétaires structurels, les résultats obtenus par lissage du PIB étant utilisés comme moyens de vérification. Pour estimer les soldes budgétaires structurels, on utilise de nouvelles élasticités des ...

The cyclically-adjusted budget balance used in the EU fi scal framework: an update

Article

Jan 2013

Matteo Salto

Measuring Cyclically-Adjusted Budget Balances for OECD Countries

Article

Aug 2005

Measuring cyclically-adjusted budget balances for OECD countries An important tool in the analysis of fiscal policy is the distinction between structural and cyclical components of the budget balance. This paper describes work undertaken to re-estimate and re-specify the elasticities underlying the Economics Department's calculations of cyclically-adjusted budget balances. Account is taken of tax reforms introduced since the previous updating exercise. A number of methodological innovations have been introduced to better account for the lags between taxes and activity and to ensure greater cross-country consistency in the estimates. The methodology underlying cyclical adjustment of expenditures has also been reviewed. Finally, the country coverage has been extended. The overall results are broadly consistent with the previous set of estimates. The sensitivity of government net lending to a 1 percentage point change in the output gap remains at around 0.5% of GDP for OECD economies on average. Mesurer le solde budgétaire corrigé des fluctuations cycliques pour les pays de l’OCDE La distinction entre les composantes structurelle et cyclique du solde budgétaire est un outil essentiel de l'analyse de la politique budgétaire. Cette étude présente le travail de ré-estimation et de re-modélisation entrepris afin de mettre à jour les élasticités sous-jacentes au calcul par le Département des Affaires Economiques du solde budgétaire corrigé des fluctuations conjoncturelles. Les réformes fiscales mise en œuvre depuis le dernier exercice de mise à jour ont été prises en compte. Un certain nombre d'améliorations méthodologiques ont été introduites afin de mieux tenir compte des délais d'ajustement entre les recettes fiscales et l'activité économique ainsi que pour assurer une meilleure cohérence des estimations entre les pays. La méthodologie utilisée pour l'ajustement cyclique des dépenses a aussi été revue. Finalement, le nombre de pays couvert a été augmenté. Les résultats globaux sont, dans l'ensemble, cohérents avec les estimations précédentes. La sensibilité du solde financier des administrations publiques à un changement d'un point de pourcentage de l'écart de production demeure autour de 0.5% du PIB pour la moyenne des pays de l'OCDE.

A Disaggregated Framework for the Analysis of Structural Developments in Public Finances

Article

Feb 2006

In this paper, we present a disaggregated framework for the analysis of past and projected structural developments in the most relevant revenue and expenditure categories and the fiscal balance. The framework, in particular, distinguishes between the effects of discretionary fiscal policy and of macroeconomic and other developments and is sufficiently standardised to be used in multi-country studies. Here, it is applied to Belgium, Finland, Germany, Italy, the Netherlands and Portugal over the period 1998 to 2004. During this period the structural primary balance ratio clearly worsened in all countries except Finland. In Belgium, Italy and the Netherlands, both revenue and expenditure contributed to the deterioration of the structural primary balance. In Germany the large deterioration in revenue was partially offset by the decline in the structural primary expenditure ratio, while the opposite was true for Portugal. The analysis highlights the various factors that contributed to these developments. JEL Classification: H20; H50; H60; E69.

Suggestions for a New Set of Fiscal Indicators, OECD Economics Department Working Paper 79

Jan 1990

O Blanchard

Blanchard, O. (1990), Suggestions for a New Set of Fiscal Indicators, OECD Economics Department Working Paper 79.

Adjusting the budget balance for the business cycle: the EU methodology

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