2.  Heller, Haas and Mansur (1986) measure of fiscal impulse

Start with the following definition of the fiscal balance (where notation has been changed to match that used elsewhere in this paper and the measures are on a primary basis):

(2.1)

where FB_t is the primary fiscal balance in year t, R_t denotes primary government nominal receipts in year t andG_t is primary government nominal expenditure in year t. The fiscal balance is decomposed as follows:

(2.2)

where: r₀ = R₀ / Y₀ base year primary nominal receipts-to-nominal GDP

g₀ = G₀ / Y₀ base year primary nominal expenditure-to-nominal GDP

Y_t = actual GDP in nominal prices in year t

Y_t^{*= potential GDP in nominal prices in year t}

R_t = as defined above

G_t = as defined above

FS_t = measure of the fiscal stance in year t.

The base year (denoted by the subscript 0) is a year in which actual and potential real GDP are approximately equal (i.e., zero output gap). In our calculations, 1994 has the smallest estimated output gap. The first right-hand-side term in equation (2.2) is the “base year surplus”. The second term is the cyclical component. Equation (2.2) can be re-written as:

(2.3)

Fiscal stance can be expressed as:

(2.4)

This is the formulation presented in Chalk (2002, Table 1). Note that unlike the structural balance method, fiscal stance here assumes that nominal taxes are unit elastic with respect to output. Government expenditures are assumed to be unit elastic with respect to potential output in nominal prices. So:

• Government receipts are cyclically neutral if they increase proportionately with increases in nominal actual GDP. A more than proportionate increase is contractionary regardless of the source (i.e., from either discretionary policy or a progressive tax structure).
• Government expenditures are cyclically neutral if they increase proportionately with increases in nominal potential GDP. A more than proportionate increase is expansionary regardless of the source (i.e., from either discretionary policy or inflation).

Although the measure makes a cyclical adjustment, it includes changes generated by elasticities of taxes and spending with respect to output that differ from unity.[22] Defining the cyclically neutral terms in this way allocates the contribution of automatic fiscal stabilisers that arise from non-unit elasticities to the measure of fiscal impulse. The first difference of equation (2.4) gives a measure of fiscal impulse (FI):

(2.5a)

(2.5b)

Heller et al. use Δ(FS/Y) as a measure of fiscal impulse relative to output. The ratio of fiscal stance to GDP in a particular year indicates how the fiscal policy stance has changed relative to the base year (where by definition, fiscal stance is neutral). Fiscal impulse in a given year reflects the change in stance. If FS/Yis unchanged between two periods (i.e., Δ(FS/Y) = 0) then no additional impulse has occurred. A positive (negative) value for fiscal impulse indicates that fiscal policy is more expansionary (contractionary) relative to the previous year. To ensure consistency with the other measures in this paper, we reverse the sign of the impulse measure so that a positive (negative) indicates a tightening (loosening) with respect to the previous year.

3.  Blanchard fiscal impulse

The Blanchard Fiscal Impulse (BFI) is an indictor of discretionary fiscal policy, and is defined as the value of the primary surplus which would have prevailed, were unemployment at the same value as in the previous year, minus the value of the primary surplus in the previous year, both as a ratio to GDP in each year.

(3.1)

where r denotes primary government receipts (% GDP) in each year, g is primary government expenditure (% GDP) in each year and U is the unemployment rate. The BFI has been calculated using the equations, elasticities and Okun coefficient from the Treasury’s structural adjustment approach. The Okun relationship provides the link from output to unemployment. The Okun relationship in this case is specified as:

(3.2)

Now convert (1.2) into changes in output from the previous year, rather than deviation in output from potential:

(3.3)

Convert (3.3) into changes in unemployment from the previous year by substituting in the Okun relationship (3.2) above. Convert (1.4) into the relationship between current and lagged unemployment, rather than current and benchmark unemployment. This gives an equation for each receipt item, and an equation for unemployment expenditure:

(3.4)

(3.5)

R_i ,_t (U_t-1) is a measure of a receipt item in year t had the unemployment rate of the previous period prevailed. Similarly, UE_t (U_t-1) is unemployment expenditure in year t had the unemployment rate of the previous period prevailed. R_t(U_t-1) is total receipts in year t at the previous years unemployment rate, and is derived by aggregating the adjusted receipt items (i.e., from equation 3.4). G_t(U_t-1) is derived by combining adjusted unemployment expenditure (from equation 3.5) with other operating expenditure. The BFI can be calculated by substituting R_t(U_t-1) and G_t(U_t-1) into the equation for the BFI (3.1) above, and converting to % of GDP.

4.  The New Zealand Treasury’s EFI

The New Zealand Treasury developed an Economic and Fiscal Indicator (see Treasury’s Briefing to the Incoming Government 1996, p.61), which showed whether fiscal policy is tighter or looser in one year relative to another year. The key difference between the EFI and other indicators of fiscal impulse is that the EFI attempts to take into account the composition of government expenditure and taxes. The approach taken was to consider how a change in fiscal policy affects the components of aggregate demand (consumption, investment, government spending, and net exports), including the feed through parameters and elasticities. The indicator is the sum of the effect of the change in fiscal policy on each of these components.

The key benefit of the EFI is that it takes into account the composition of fiscal policy, so that it may provide additional information in the case of a balanced budget change in fiscal policy. It also accounts for different reactions by different households, by assuming that some households are liquidity constrained while others are not.

The key disadvantages of the EFI are that the calculation is subjective and relies on judgements around economic theory and parameters such as elasticities, it is not cyclically adjusted and it is not internationally comparable. In addition, changes in the operating balance were found to proxy reasonably well any changes in the EFI under a variety of scenarios. The multiplier effects in the EFI and the inclusion of some capital transactions do not appear to cause substantial differences to the story being told. Even the EFI could not provide a complete assessment of the impact of fiscal policy on the economy because it is only a partial model. For example, it does not contain a supply side, or a monetary policy reaction function.