Fiscal Procyclicality: Graduation in Latin America and the Caribbean and Back to School in Europe?

On October 8, the Brookings Global-CERES Economic and Social Policy in the Latin America Initiative (ESPLA) hosted a private roundtable discussion on fiscal policy in Latin America and the European Union.

Carlos Vegh of Johns Hopkins SAIS and Brookings and Guillermo Vuletin of Brookings provided some brief opening remarks focusing on recent experiences in EU fiscal policy and questioned whether some Latin American governments might be able to continue pursuing countercyclical fiscal policies in a sustainable way given the recent slowdown in global demand and increasing worries about a reversal in capital inflows, declining commodity prices and rising fiscal deficits. The presentation was followed by comments from Eduardo Fernandez Arias of the InterAmerican Development Bank and Paolo Mauro of the International Monetary Fund. 

Members of the roundtable questioned whether the apparent graduation in many developing countries came as a response of favorable external conditions as opposed to better institutions and policy graduation.

Participants also pointed out that in order to evaluate the degree of ex-post flexibility of fiscal policy as well as understand the “quality of fiscal policy,” it is crucial to have a deeper understanding of spending composition in terms of government consumption versus government investment.

The roundtable also touched upon the existence of financial bubbles and the uncertainty that these bubbles entail, making preventive fiscal behavior quite difficult to identify and, at times, not even sufficient.

Other topics covered in the subsequent discussion included the necessity of distinguishing macroeconomic fundamentals from market perceptions (especially when countries are coping with deep recessions) and the importance of using automatic stabilizers to mitigate the ability to forecast economic activity. 

Ernesto Talvi, director of ESPLA, offered concluding remarks. As a result of this very successful first meeting, ESPLA plans to regularly host and organize these roundtable discussions on other relevant macroeconomic topics.