Thread by @heimbergecon

Excellent @socialeurope article by @adam_tooze on the problematic policy implications of flawed output gap estimates

As we have done a lot of research on this issue in the European context, let me just complement Adam's arguments with a short thread

socialeurope.eu/output-gap-non…

The Eurozone is (quietly) disintegrating; several countries continue on paths of economic divergence. Disintegration is reinforced by self-defeating policies shaped by the output gaps model that mimics and reinforces existing divisions /2

ineteconomics.org/perspectives/b…

How does this happen? The European Commission’s ‘output gaps’ model represents a core pillar of EU fiscal governance as it provides estimates of ‘structural deficits’ for evaluating member states’ fiscal policies /3

econstor.eu/bitstream/1041…

The performance of the European Commission's underlying model for estimating output gaps has been questionable, as we show in our research on how the model has promoted pro-cyclical fiscal policies, thereby amplifying boom and bust cycles: jakob-kapeller.org/images/pubs/20… /4

As @adam_tooze correctly notes in his article, as European economies were growing more rapidly in pre-crisis times, potential output was revised upwards, giving countries additional room for fiscal manoeuvring. /5

jakob-kapeller.org/images/pubs/20…

As the crisis hit, downward revisions in potential output increased the pressure to implement fiscal consolidation measures via the institutionalization of structural balances in the EU’s fiscal regulation framework; crisis-ridden countries were most affected. /6

Essentially, in crisis times the implicit imperative of the European Commission's "output gaps" model is fiscal austerity, potentially leading into developmental traps for some countries /7

By providing pro-cyclical downward revisions of potential output estimates, as in the case of the Italy, as well as correspondingly higher numbers on ‘excessive structural deficits’, the output gaps model translates an econometric problem into political momentum /8

The decrease in political scope in debt-burdened countries such as Italy induced by the Commission's model estimates makes alternative political proposals or economic visions for European economic policy more difficult to defend /9

To foster debate about alternative proposals for overcoming macroeconomic troubles in Europe, it is therefore highly important that @adam_tooze, @RobinBrooksIIF, @AchimTruger and others are exposing the problematic policy implications of flawed output gaps estimations \end