Friday, August 24, 2012

What is the best way to reduce the government's budget deficit?

New research by Alberto Alesina, Carlo Favero, and Francesco Giavazzi suggests an answer:
This paper studies whether fiscal corrections cause large output losses. We find that it matters crucially how the fiscal correction occurs. Adjustments based upon spending cuts are much less costly in terms of output losses than tax-based ones. Spending-based adjustments have been associated with mild and short-lived recessions, in many cases with no recession at all. Tax-based adjustments have been associated with prolonged and deep recessions.