Watch This (Fiscal) Space: Assessing Room for Fiscal Maneuver in Advanced Countries


By Jonathan D. Ostry

Public debt sustainability in most advanced economies used to be a non-issue, or at most a back-burner one. A couple years back, if the topic came up, most people associated it with developing or emerging market countries. Defaults, rising sovereign risk premia, getting shut out from capital markets were, let’s face it, not really imagined to be possibilities for advanced economies. Of course there were fiscal challenges, demographic pressures being the obvious one, but these were issues for the long term, not the here and now.

But today, fiscal problems are a key concern of policy makers in many industrial countries, and a reassessment of sovereign risk is a palpable threat to global recovery. While the financial crisis may be a convenient scapegoat for the debt blowout in the advanced countries, blame lies elsewhere, in how fiscal policy was managed before the great recession, not during it. And, more sobering still, taming public debt will require steadfast policy efforts over the medium term: quick fixes will not do the trick.

What is the worry? At the heart of the issue is the extent to which governments have room for fiscal maneuver—“fiscal space”—before markets force them to tighten policies sharply and, relatedly, the size of adjustments needed to restore or maintain public debt sustainability.

Yet, surprisingly, much of the talk about fiscal space—how to measure it and the policy implications—has so far been rather fuzzy. A new staff position note, which I co-authored with several IMF colleagues, aims to remedy this, providing an operational definition of the fiscal space concept as well as empirical estimates of available fiscal space for 23 advanced economies.

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