Stability and performance of monetary and fiscal policies in the euro area

Abstract

This research article examines the sustainability of fiscal policy and the impact of monetary policy on public debt management in the euro area from 1980 to 2014. This study applies the Augmented Dickey-Fuller (ADF) and Phillips Perron (PP) unit root tests to verify the existence of stationarity and indicates that the relevant variables are integrated. The analysis is based on error correction models and cointegrated VAR-models. The empirical findings indicate that there is no evidence to support the existence of strong political coordination in the euro area. Additionally, the study supports the idea that monetary policy has a more stabilizing influence on economic activity than budget policy. An important policy implication resulting from this study is that the fiscal rule generates a divergent dynamic of the public debt. The results suggest the Keynesian effects of macroeconomic policies in the eurozone and conclude that there is a sort of complementarity between monetary and fiscal policies in some euro area countries. This means that a restrictive monetary policy (higher interest rates, interest) is always accompanied by a restrictive fiscal policy (higher taxes or lower public spending) and vice versa. Concerning the Vector Error Correction Model (VECM) techniques, the findings demonstrate that the debt has a positive effect on the budget deficit, which ultimately results in behavior that affects the debt's stability.