Essays on fiscal rules

This dissertation discusses the design of optimal _scal rules in a dynamic setting in which national governments with quasi-hyperbolic preferences are subject to privately observed idiosyncratic shocks. In this context, fiscal rules aim at striking a balance between exibility to react to shocks, and commitment to avoid excessive government spending. Chapter 1 derives and compares optimal rules in two di_erent environments: one in which a supranational authority is allowed to transfer resources across countries (i.e., a fiscal union) and one in which transfers are forbidden. I find that optimal fiscal rules can be implemented as de_cit limits and are complemented with a combination of grants and loans in a fiscal union. All instruments are debt-contingent: higher public debt contemporaneously tightens de_cit limits and reduces the entity of both transfers and credits. The chapter includes a calibration of the model using EU data. In Chapter 2, which is joint work with Facundo Piguillem, we study the effect of stochastic government turnover on fiscal rules' design. The model decomposes governments' present-bias in di_erent components: the fundamental political friction - captured by hyperbolic discounting; the overall uncertainty in the economy; and the relative relevance of political turnover versus business cycle uctuations. Fiscal rules, both in a national and in a supranational setting, are found to be stricter when insurance needs are low, the present bias is high and government turnover is frequent. Chapter 3, which is joint work with Facundo Piguillem and Liyan Shi, analyzes the role of sovereign default in the design of fiscal rules. We build a continuous-time model and derive the optimal fiscal rules, which tun out to be debt-dependent only when default is possible. Depending on the severity of the spending bias and the cost of default, optimal fiscal rules range from strict debt limits - complemented by strong de_cit limits - to the absence of all rules. In intermediate cases, debtdependent de_cit limits must be complemented with default rules, with some areas where default is prohibited and others where default is mandatory.