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A new test for fiscal sustainability with endogenous sovereign bond yields: Evidence for EU economies

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  • Mackiewicz-Łyziak, Joanna
  • Łyziak, Tomasz
Abstract
In this paper we develop a new test for fiscal sustainability and propose a synthetic fiscal sustainability indicator. Conventional tests based on fiscal reaction functions assume a constant real interest rate. However, many empirical studies find evidence on a positive response of long-term rates to sovereign debt levels. We take this evidence into account and endogenize the long-term real interest rate in testing fiscal sustainability. We apply the new test for the European economies. We find that considering the response of interest rate to debt may change the assessment of fiscal sustainability. More specifically, our results indicate that fiscal sustainability is at risk in a number of European Union economies, even if the results of traditional approaches suggest sustainable fiscal policy.

Suggested Citation

  • Mackiewicz-Łyziak, Joanna & Łyziak, Tomasz, 2019. "A new test for fiscal sustainability with endogenous sovereign bond yields: Evidence for EU economies," Economic Modelling, Elsevier, vol. 82(C), pages 136-151.
    • Handle: RePEc:eee:ecmode:v:82:y:2019:i:c:p:136-151
    DOI: 10.1016/j.econmod.2019.01.001
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    References listed on IDEAS

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    Cited by:

    1. Afonso, António & Coelho, José Carlos, 2023. "Public finances solvency in the Euro Area," Economic Analysis and Policy, Elsevier, vol. 77(C), pages 642-657.
    2. Abderrahim Chibi & Sidi Mohamed Chekouri & Mohamed Benbouziane, 2019. "The dynamics of fiscal policy in Algeria: sustainability and structural change," Journal of Economic Structures, Springer;Pan-Pacific Association of Input-Output Studies (PAPAIOS), vol. 8(1), pages 1-27, December.
    3. Afonso, António & Alves, José & Monteiro, Sofia, 2024. "Sovereign risk dynamics in the EU: The time varying relevance of fiscal and external (im)balances," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 94(C).
    4. António Afonso & José Carlos Coelho, 2022. "Public finances solvency in the Euro Area: true or false?," Working Papers REM 2022/0243, ISEG - Lisbon School of Economics and Management, REM, Universidade de Lisboa.
    5. Gozde Es POLAT & Onur POLAT, 2021. "Fiscal sustainability analysis in EU countries: a dynamic macro-panel approach," Eastern Journal of European Studies, Centre for European Studies, Alexandru Ioan Cuza University, vol. 12, pages 219-241, June.
    6. Park, Danbee & Sung, Taeyoon, 2020. "Foreign debt, global liquidity, and fiscal sustainability," Japan and the World Economy, Elsevier, vol. 54(C).

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    More about this item

    Keywords

    Fiscal policy; Fiscal rules; Long-term bond yields; European Union;
    All these keywords.

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • C54 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Quantitative Policy Modeling

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