Working Paper: NBER ID: w21688
Authors: Christopher L. House; Linda L. Tesar
Abstract: As of August 2015, Greece’s loan repayments due to external creditors through 2057 summed to €319.5 billion, requiring an average debt payment on a flow basis of 4.1 percent of 2014 Greek GDP. This paper examines the economic impact of increases in distortionary taxes on consumption, capital and labor income as well as reductions in government expenditures sufficient to increase Greece’s primary balance by one percent of 2014 GDP – roughly a quarter of Greece’s total debt obligations. In the baseline case calibrated to the Greek economy, all of the tax and expenditure policies we consider produce declines in output in both the short- and long-run. Projections of the primary surplus based on static revenue scoring grossly overestimate the amount of actual revenue that Greece would raise due to the endogenous adjustment of capital and labor. Meeting the debt repayment schedule is substantially more costly because Greece is a small economy that is integrated with the larger European economy. Failure to incorporate the impact of capital and labor mobility results in a significant overestimate of future revenue. Delaying the implementation of tax increases or government expenditure cuts can help mitigate the short-run fall in output, but such delays require greater economic hardship in the long run.
Keywords: Greece; fiscal policy; debt; primary surplus; taxation
JEL Codes: E62; F42; F43; F45; H63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| increases in distortionary taxes on consumption, capital, and labor income (H31) | declines in output (E23) |
| reductions in government expenditures (H59) | declines in output (E23) |
| required adjustments to achieve a primary balance increase of one percent of GDP (E62) | long-run output reduction of nearly 15 percent (E23) |
| failure to incorporate the effects of capital and labor mobility (F20) | overestimate of future revenue (G17) |
| delaying tax increases or expenditure cuts (H69) | mitigate short-run output declines (E23) |
| delaying tax increases or expenditure cuts (H69) | greater economic hardship in the long run (F69) |