various reforms, including budget balances.33 Results indicate that fiscal consolidation could be
negatively associated with tax reforms and labour and product market reforms, while there is no
significant relation with financial market reforms and trade reforms. Conversely, the level of the
cyclically-adjusted budget balance is generally significantly and positively related to structural
reform indicators.34 Analogous results are found in Duval and Elmeskov (2005). This paper
investigates the determinants of the probability of undertaking structural reforms increasing the
flexibility of labour and product markets in a sample of OECD countries. The findings indicate
that while the probability of reforms is positively related with the level of the budget balance, a
negative but not statistically significant relation is found with the cyclically-adjusted balance.35
The strategy of the present paper is that of focusing the analysis on a particular reason for why
there could be a trade-off between budgetary discipline and reforms, namely the presence of short-
term costs to the budget associated with the implementation of reforms. The next section analyses
whether the changes that occurred in different categories of government expenditures and revenues
in the aftermath of reforms were significantly different compared with those when reforms were
not implemented. In section 3.3. there is an attempt to measure the impact of reforms on budgets
controlling for the response of fiscal authorities to the cycle and debt levels.
3.2. Developments in budgetary items in the aftermath of reforms
The purpose of this section is to provide evidence on the short-term budgetary impact of structural
reforms by tracking the developments occurred in various budgetary items after reforms took place
33 The analysis concerns several types of reforms: labour product and financial market reforms, tax reforms and trade
reforms. The dependent variable employed is the time change in structural indicators inversely measuring the extent
of policy-induced market distortions. The explanatory factors considered are as follows:: initial structural conditions,
variables relating to international factors and openness, macroeconomic variables, and factors affecting the policy-
making process. The initial structural conditions are captured by lagged variables of the structural indicators used as
dependent variables and by demographic variables. International factors are captured by the share of trade on GDP
(trade openness) and by a dummy variable for EU membership. The macroeconomic variables used include
cyclically-adjusted primary budget balances, both levels and year-to-year changes and dummy variables denoting
years with very low growth (bad years) and how many of the previous 3 years were bad years. Factors affecting the
policy-making process were captures by a list of dummies capturing political variables (e.g., whether in the year
were there elections, electoral rule followed,...).
34 Analogous analysis to that contained in IMF (2004) has been carried out in Debrun and Annett (2004) separately
on a sample of EU countries only. It is shown that when the analysis is restricted to EU countries, the impact of
fiscal consolidation on the implementation of reforms becomes significantly weaker.
35 The dependent variable used in this analysis is dycotomic: it takes value 1 if reforms are carried out and 0
otherwise. A reform is defined as a change in indexes measuring inversely the degree of policy-induced market
distortions that exceeds the sample average by two standard deviations. Probit regressions are performed on
dependent variables measuring the conditions of the labour market, macroeconomic conditions, the state of public
finances and the political context. In addition regressions include dummies capturing whether countries are small or
large and whether monetary policy is independent or tied by exchange rate agreements or currency unions.
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