Bill Mitchell — Structural fiscal balance is about full employment not ‘normality’

The difference between fiscal balance (revenue minus expenditure) and fiscal stance (whether government policy is expansionary, neutral or contractionary). Conventional economics equates the fiscal balance with the fiscal stance. Bill explains why and how this is wrong, owing to the action of the automatic stabilizers and how neoliberal policy has changed the definition of full employment.

The following provides you with an accurate understanding of what a stuctural fiscal balance is. It has nothing to do with a “normal year” in an economic cycle. In fact, if the fiscal balance is all structural then it would be a very unique year and one that nations rarely attain, mostly because governments will not take responsibility for achieving full employment.

The federal fiscal balance is the difference between total federal revenue and total federal outlays. So if total revenue is greater than outlays, the fiscal balance is in surplus and vice versa. It is a simple matter of accounting with no theory involved. However, the fiscal balance is used by all and sundry to indicate the fiscal stance of the government.

So if the fiscal balance is in surplus we conclude that the fiscal impact of government is contractionary (withdrawing net spending) and if the fiscal balance is in deficit we say the fiscal impact expansionary (adding net spending).

However, the complication is that we cannot then conclude that changes in the fiscal impact reflect discretionary policy changes. The reason for this uncertainty is that there are automatic stabilisers operating. To see this, the most simple model of the fiscal balance we might think of can be written as:

Fiscal Balance = Revenue – Spending.

Fiscal Balance = (Tax Revenue + Other Revenue) – (Welfare Payments + Other Spending)

We know that Tax Revenue and Welfare Payments move inversely with respect to each other, with the latter rising when GDP growth falls and the former rises with GDP growth. These components of the fiscal balance are the so-called automatic stabilisers

In other words, without any discretionary policy changes, the fiscal balance will vary over the course of the business cycle. When the economy is weak – tax revenue falls and welfare payments rise and so the fiscal balance moves towards deficit (or an increasing deficit).

When the economy is stronger – tax revenue rises and welfare payments fall and the fiscal balance becomes increasingly positive. Automatic stabilisers attenuate the amplitude in the economic cycle by expanding the budget in a recession and contracting it in a boom.

So just because the fiscal balance goes into deficit doesn’t allow us to conclude that the Government has suddenly become of an expansionary mind. In other words, the presence of automatic stabilisers make it hard to discern whether the fiscal policy stance (chosen by the government) is contractionary or expansionary at any particular point in time.

To overcome this uncertainty, economists devised what used to be called the Full Employment or High Employment Fiscal Balance.

In more recent times, this concept is now called the Structural Balance....

Bill Mitchell – billy blog
Structural fiscal balance is about full employment not ‘normality’
Bill Mitchell | Professor in Economics and Director of the Centre of Full Employment and Equity (CofFEE), at the Charles Darwin University, Northern Territory, Australia