Media Briefings


  • Published Date: March 2015

Developed countries that are cutting their budgets in the aftermath of the global financial crisis are pushing themselves into deeper debt given that the central bank cannot do much to encourage growth with interest rates at the ‘zero lower bound’. That is the central finding of research by Dawid Trzeciakiewicz to be presented at the Royal Economic Society’s 2015 annual conference.

Fiscal consolidation programmes have been adopted almost universally in the developed world since 2011 in an effort to reverse the substantially worsened fiscal outlook in the aftermath of the global financial crisis.

This study shows that when interest rates are at the zero lower bound, as has been the case in a number of advanced economies since 2009, fiscal austerity can be self-defeating – that is, consolidation packages lead to increases in government debt when interest rates have reached their lower limit.

This is due to the heightened impact that fiscal policy has on an economy when monetary policy has become ineffective and unresponsive. In this instance, the inflationary impact of expansionary fiscal policy leads to a cut in the real interest rate, and crowding in of private consumption and investment, which leads to a reduction in government debt.

The study finds that this is more likely to emerge in the case of fiscal adjustments based on consumption taxes and government spending: government consumption, government investment, public employment and transfers.

The authors propose an alternative measure of fiscal policy effectiveness in the form of bond multipliers that are based on the evolution of debt-to-GDP ratios. In normal times, the ranking of the bond multipliers of fiscal experiments is in line with those using traditional multipliers (change in GDP/change in fiscal instrument).

But when the economy is at the zero lower bound, government debt takes a different path as a result of fiscal action compared with when it is not; an issue that is not addressed by traditional multipliers as they ignore the dynamics of debt. Using these bond multipliers, the study shows that fiscal austerity is self-defeating when near zero interest rates are in place for at least four quarters.


Contact: Dawid Trzeciakiewicz
Telephone number: 07449 344261