Lorenzo Forni

Macroeconomic Effects of Greater Competition in the Service Sector: The Case of Italy

he paper assesses the effects of increasing competition in the service sector in Italy which, based on cross-country comparisons, is the OECD country with the highest markups in non-manufacturing industries. We propose a two-region (Italy and the rest of the euro area) dynamic general equilibrium model allowing for monopolistic competition in the labor, manufacturing and service markets. We then use the model to simulate the macroeconomic and spillover effects of increasing the degree of competition in the Italian services sector. Our results indicate that reducing the service sector markups to the levels of the rest of the euro area increases in the long run Italian GDP by 11 percent and welfare (measured in terms of steady state consumption equivalents) by about 3.5 percent. Half of the GDP increase would be realized in the first three years. The spillover effects to the rest of the euro area are limited.

The Mismatch Between Life Insurance Holdings and Financial Vulnerabilities: Evidence from the Health and Retirement Study

Using data on older workers from the 1992 Health and Retirement Survey, along with an elaborate life-cycle planning model, the authors quantify the effect of each individuals death on the financial status of his or her survivors and the degree to which life insurance holdings moderate these consequences. The average change in living standard that would result from a spouses death is small, both in absolute terms and relative to the decline that would occur without insurance. However, this average obscures a startling mismatch between insurance holdings and underlying vulnerabilities. For many of the most vulnerable, the amounts purchased are surprisingly small, and for many of the least vulnerable, the amounts are surprisingly large. As a result, uninsured vulnerabilities are quite widespread. The magnitude of these vulnerabilities, as well as the proclivity to address any given degree of vulnerability by purchasing life insurance, vary systematically with individual and household characteristics.

Default in Today's Advanced Economies; Unnecessary, Undesirable, and Unlikely

This note summarizes the main arguments put forward by some market commentators who argue that default is inevitable, and presents a rebuttal for each argument in turn. Their main arguments focus on the size of the adjustment and continued market concerns reflected in government bond spreads. The essence of our reasoning is that the challenge stems mainly from the advanced economies’ large primary deficits. Thus, by lowering the interest bill while triggering the need to move to primary balance or a small primary surplus, default would not significantly reduce the need for major fiscal adjustment. In contrast, the emerging economies that defaulted in recent decades did so primarily as a result of high debt servicing costs, often in the context of major external shocks. We conclude that default would be ineffective and undesirable in today’s advanced economies.

The Macroeconomics of Fiscal Consolidations in a Monetary Union: The Case of Italy

We simulate the macroeconomic and welfare implications of different fiscal consolidation scenarios in Italy using a medium scale two-areas dynamic general equilibrium currency-union model. Differently from similar models, ours is rich in the terms of fiscal features. We assume distortionary taxes (on labor income, capital income and consumption) and welfare-enhancing public expenditure. We distinguish between public spending on final goods and services, public employment and transfers to households. The scenarios that we consider envisage a decreases in the public debt to GDP ratio of 10 percentage points in 5 years. Based on our simulations we find that: first, fiscal distortions are quantitatively significant; second, a consolidation strategy that reduces expenditure and simultaneously lowers tax rates has a positive effect on long-run GDP of 5% to 7% and on welfare of 4% to 7% of the initial levels, depending on the composition of the adjustment; third, consumption and investment are stable or grow on impact and along the path to the new steady state; finally, spillovers to the rest of the Euro area are expansionary and sizeable both in the long run and along the transition.

Fiscal Multipliers : Size, Determinants, and Use in Macroeconomic Projections

Fiscal multipliers are important tools for macroeconomic projections and policy design. In many countries, little is known about the size of multipliers, as data availability limits the scope for empirical research. This note provides general guidance on the definition, measurement, and use of fiscal multipliers. It reviews the literature related to their size, persistence and determinants. For countries where no reliable estimate is available, the note proposes a simple method to come up with reasonable values. Finally, the note presents options to incorporate multipliers in macroeconomic forecasts.

Euro Area and Global Oil Shocks: An Empirical Model-Based Analysis

We assess the impact of oil shocks on euro-area macroeconomic variables by estimating a new-Keynesian small open economy model with Bayesian methods. Oil price is determined according to supply and demand conditions in the world oil market. We find that the impact of an increase in the price of oil depends upon the underlying sources of variation: when the driver of higher oil prices is an increase in the rest of the worlds aggregate demand, both euro-area GDP and CPI inflation increase, whereas negative oil supply shocks and positive worldwide oil-specific demand shocks have stagflationary effects on the euro-area economy. Moreover, the increase in oil prices during the 2004-2008 period did not induce stagflationary effects on the euro-area economy because it was associated with positive aggregate demand shocks in the rest of the world. Similarly, a drop in world aggregate demand helps to explain the recent (2008) simultaneous drop in oil prices, euro-area GDP and inflation - particularly its fuel component.

Fiscal Rules to Tame the Political Budget Cycle: Evidence from Italian Municipalities

The paper provides evidence that fiscal rules can limit the political budget cycle. It focuses on the application of the Italian fiscal rule at the sub-national level over the period 2004-2006 and shows that 1) municipalities are subject to political budget cycles in capital spending; 2) the Italian subnational fiscal rule introduced in 1999 has been enforced by the central government; 3) municipalities subject to the fiscal rule show more limited political budget cycles than municipalities not subject to the rule. In order to identify the effect, we rely on the fact that the domestic fiscal rule does not apply to municipalities below 5,000 inhabitants. We find that the political budget cycle increases real capital spending by about 35 percent on average in the years prior to municipal elections and that the sub-national fiscal rule reduces these figures by about two thirds.

Macroeconomic Effects of Sovereign Restructuring in a Monetary Union; A Model-based Approach

We assess the macroeconomic effects of a sovereign restructuring in a small economy belonging to a monetary union by simulating a dynamic general equilibrium model. In line with the empirical evidence, we make the following three key assumptions. First, sovereign debt is held by domestic agents and by agents in the rest of the monetary union. Second, after the restructuring the sovereign borrowing rate increases and its increase is fully transmitted to the borrowing rate paid by the domestic agents. Third, the government cannot discriminate between domestic and foreign agents when restructuring. We show that the macroeconomic effects of the restructuring depend on: (a) the share of sovereign bonds held by residents in the country as compared to that held by foreign residents, (b) the increase in the spread paid by domestic agents and (c) its net foreign asset position at the moment of the restructuring. Our results also suggest that the sovereign restructuring implies persistent reductions of output, consumption and investment, that can be large, in particular if the share of public debt held domestically is large, the private foreign debt is high and the spread paid by the government and the households does increase.

Public Employment and Compensation Reform During Times of Fiscal Consolidation

This paper compiles and compares recent and past measures introduced to contain the public wage bill in a number of emerging and advanced economies to assess their effectiveness in bringing down expenditure in a sustained way. In the aftermath of the Great Recession a number of countries have approved measures on the wage bill as part of fiscal consolidation efforts. These recent episodes are compared to past cases implemented in advanced economies over the period 1979–2009. Findings suggest that public wage bill consolidation episodes pre and post 2009 are similar in many respects. Moreover, typically countries that were able to achieve more sustained reductions in the wage bill have implemented to larger extent structural measures, and/or these measures were accompanied with substantial social dialogue and consensus.

Private and Public Debt: Are Emerging Markets at Risk?

Using a dataset covering a large sample of emerging economies (EMEs), we study the relationship between debt and economic performance in bad times. While previous research has shown that private debt buildups exacerbate the duration and intensity of recessions in advanced economies (AEs), we document that this effect is very pronounced in EMEs as well. Moreover, although rapid public debt buildups are unlikely to be the primary trigger of financial crises, in EMEs they are associated with deeper and longer recessions than in AEs. Part of this difference is explained by a less supportive fiscal policy in EMEs during crises.