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Working Paper Summaries (WP/94/1 - WP/94/76)
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Working Paper Summaries 94/68: Output Decline and Government Expenditures in European Transition Economies

Author(s):
International Monetary Fund
Published Date:
August 1994
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This paper discusses the role of expenditure policies in the decline in aggregate output in European transition economies. It considers three main questions. First, it asks whether actual changes in the level and composition of government expenditures in European transition economies were largely the result of policies or of transition-induced exogenous factors. Second, the paper asks whether government expenditure policies contributed significantly to the measured output decline, and if so, whether this was attributable to specific expenditure components. Third, it asks whether there were more desirable alternatives to the expenditure policies that have been undertaken.

As regards the first question, the paper notes that transition economies showed a clear tendency to reduce the overall extent of government intervention in the economy, even though this did not necessarily manifest itself in a reduction in government expenditures. It contends that, to a large extent, the changes in the level and composition of government expenditures were an inevitable result of transition and reform. For example, reductions in producer subsidies and increases in transfers to households were inevitable once the transition got under way. But the paper finds that policymakers had some degrees of freedom for making expenditure policy choices and safeguarding fiscal sustainability.

As regards the second question, the paper observes that various measurement problems allow for conclusions of a very preliminary nature. Overall, insufficient evidence is seen for concluding that government expenditures made more than a small contribution to the decline in aggregate output. The paper suggests that, generally, government expenditure constraints were not “binding” in determining the pattern of output decline. For example, sectors that were severely input-constrained by the collapse of the Council for Mutual Economic Assistance could not have responded to increased government demand. Only in few cases could it be argued that credit tightening and producer subsidy reductions were brought about too rapidly.

As regards the third question, the paper finds it difficult to make a general case that a different set of expenditure policies by itself would have helped to mitigate the output decline. Also, government expenditure levels in European transition economies are seen still to be on the high side, at least when compared with European market-based economies. As for the future, the paper detects few reasons for pursuing expansionary fiscal policies as a way of lifting European transition economies out of the “transitional recession,” even when abstracting from possible adverse macroeconomic consequences. Nevertheless, it states a further reordering of expenditure priorities is desirable. In particular, increases in the share of capital expenditures--human and physical, including operations and maintenance outlays--are recommended for improving long-run output potentials.

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