Home / NEWS LINE / Fiscal Imbalance Definition

Fiscal Imbalance Definition

What Is Pecuniary Imbalance?

Fiscal imbalance occurs when a government’s future debt obligations are not in balance with its future receipts streams. There are two types of imbalances that can impact a government’s expenditures and revenue: vertical fiscal imbalance and prone fiscal imbalance.

Obligations and income streams are measured at their respective present values and discounted at the risk-free measure plus a certain spread. If a government incurs a sustained fiscal imbalance, then tax burdens will likely extend in the future, causing current and future household consumption to fall.

Key Takeaways

  • Fiscal imbalance occurs when there is a mismatch between a domination’s future debt obligations and future income streams.
  • Vertical and horizontal fiscal imbalance are the two types of imbalance that can change a government’s expenditures and revenues.
  • A vertical fiscal imbalance occurs when revenues do not match expenditures for different oversight levels.
  • A horizontal fiscal imbalance occurs when revenues do not match expenditures for different regions of the country.

Sympathy Fiscal Imbalance

Fiscal imbalance generally occurs when a government’s spending (and resulting debt) outstrips its long-term knack to raise revenue to finance its spending and debt. This often occurs when a government takes on long-term lay out obligations based on overly optimistic estimates of the cost of the obligations, or the ability or willingness of taxpayers to finance them.

One frequent example is when governments commit to expensive defined-benefit pensions for public employees without considering the possibility of tomorrow economic downturns that might impact tax revenue and the value of pension fund investments. This scenario has wagered out at some U.S. state and municipal governments, leading to budget cuts to basic public services such as policing, insist ons for state or federal bailouts for fiscally mismanaged government units, or in some cases Chapter 9 bankruptcy proceedings.

A plane fiscal imbalance describes a situation in which revenues do not match expenditures for different regions of the country. Horizontal budgetary imbalances are often used to justify equalization transfers or payments to a state or province from the federal government to counterpoise monetary imbalances between different parts of the country. 

A horizontal fiscal imbalance occurs when sub-national dominations do not have the same capabilities in terms of raising funds from their tax bases to provide public services. This model of fiscal imbalance creates differences in net fiscal benefits, which are a combination of levels of taxation and public services. These allowances are also often used as part of the justification to require transfer payments and redistribution of wealth from some domains to others.

A vertical fiscal imbalance describes a situation in which revenues do not match expenditures for different levels of control. A vertical fiscal imbalance is a structural issue that can be resolved if revenue and expenditure responsibilities can be reassigned. For example, if a status requires its towns and cities to provide educational services but leaves responsibility for funding up to local property or other rates, this can create a vertical imbalance unless the state also contributes funding to help meet the fiscal accountability it created for its towns and cities. 

Real World Example of Fiscal Imbalance 

The Greek debt crisis had its origins in the economic profligacy of previous governments. After Greece joined the European Community in 1981, its economy and finances were in propitious shape, but its financial situation deteriorated dramatically over the next 30 years. 

Over the decades, control of the direction went back and forth between the leftist Panhellenic Socialist Movement and the New Democracy Party. In an attempt to keep the working class happy, both parties enacted liberal welfare policies that created an inefficient economy. As a result of low productivity, consuming competitiveness, and rampant tax evasion, the government resorted to a massive debt binge to keep the government afloat. 

Greece’s ticket into the Eurozone in 2001 and its adoption of the euro made it far easier for the government to borrow. Greek bond yields and regard rates declined sharply as they converged with those of strong European Union members such as Germany. As a arise, the Greek economy boomed, with annual gross domestic product growth peaking at 5.65% in 2006. 

However, the 2008 economic crisis led investors and creditors to focus on the massive sovereign debt loads of the U.S. and Europe. With default a real conceivability, investors began demanding much higher yields for sovereign debt issued by Greece as compensation for this summed risk. As Greece’s economy contracted in the aftermath of the crisis, its debt-to-GDP ratio skyrocketed.

Check Also

How to Use Enterprise Value to Compare Companies

Company value (EV) is an indicator of how the market attributes value to a firm …

Leave a Reply

Your email address will not be published. Required fields are marked *