Abstract
The IMF Working Papers series is designed to make IMF staff research available to a wide audience. Almost 300 Working Papers are released each year, covering a wide range of theoretical and analytical topics, including balance of payments, monetary and fiscal issues, global liquidity, and national and international economic developments.
Fiscal impulse measures such as those employed in the World Economic Outlook (WEO) have long been used to assess the changing impact of the budget on the economy through removing the impact of the economy on the budget. In the WEO variant, any expenditure growth that exceeds the potential growth rate of the economy, expressed in comparable nominal terms, is deemed expansionary, while a growth in revenue that exceeds the actual rate of growth of the economy is treated as contractionary. Such excesses or deficiencies in expenditures and revenues are combined in a single formula, which is equivalent to comparing the actual change in the budget deficit with a normative or neutral change. One may infer that if the actual deficit is growing more rapidly, the fiscal impulse is expansionary, in the sense that the primary, or first-round, effect of the budget adds to aggregate demand.
Among the questions that have arisen about the fiscal impulse measure are why expenditure should be tested against the potential output growth rate when revenue is tested against the actual growth rate; whether or not the measure is useful for drawing inferences about the impact on the economy; and whether or not it would be a useful instrument in a compensatory fiscal policy. A powerful criticism is that the measure lacks an analytical justification, which, if true, would render it inoperable. However, this paper shows that it is possible to use a simple framework to derive the measure analytically.
The derived measure is contrasted with some alternative measures that have recently been proposed and found to be superior. It should, however, be used judiciously. In particular, while the measure is indicative of the changing impact of the budget on aggregate demand, qualifications are needed depending on the underlying circumstances of the economy. Attempts are made to relate the performance of the economy to the fiscal impulse. However, using it to facilitate a compensatory fiscal policy should be carefully circumscribed. The need for fiscal consolidation, for example, may override the need for a compensatory fiscal policy.