Fédéric Holm-Hadulla

The impact of expenditure rules on budgetary discipline over the cycle

We study the impact of expenditure rules on the propensity for governments to deviate from their expenditure plans in response to surprising cyclical developments. Theoretical considerations suggest that due to political fragmentation in the budgetary process expenditure policy might be prone to a procyclical bias. However, this tendency may be mitigated by strictly enforced expenditure rules. These hypotheses are tested against data from a panel of EU Member States. Our key findings are that (1) deviations between actual and planned government expenditure tend to be positively related to output gap surprises, and (2) expenditure rules reduce this procyclical bias. These results are particularly pronounced when the analysis is confined to spending items with a high degree of budgetary flexibility.