Fiscal Sustainability and Tax Smoothing: A Preliminary Analysis of the Case of Denmark

Fiscal Sustainability Conference, p. 175, 2000

34 Pages Posted: 17 Jul 2012

Date Written: 2000

Abstract

Niels Kleis Frederiksen evaluates the prospective sustainability of Danish public finances. As an index of sustainability he uses the permanent adjustment of the primary surplus required to satisfy the intertemporal budget constraint. Rather than imposing, à la Blanchard, convergence to an exogenous debt ratio, he refers to a long-term horizon covering the transition to a steady state. The paper shows that current policies are close to sustainability. The negative effects of ageing on public budgets are offset by the positive revenue effects of the deferred taxation of accumulated pension assets and by the reduction in government debt determined by the current budgetary surplus. Frederiksen highlights the margins of uncertainty surrounding long-term demographic and labour force projections and the large effects on prospective sustainability of modest changes in the assumptions concerning these variables. Finally, the paper evaluates the tax-smoothing argument for pursuing sustainable fiscal policies, i.e. that tax rates allowing a reduction in the debt level now would pre-empt the need for future tax increases when ageing becomes more severe. On the basis of simulations run with a dynamic general equilibrium model he shows that a temporary tax cut followed by a permanent wage tax increase would provide some, albeit modest, efficiency gains. Stable tax rates would therefore have to be justified on other grounds, such as equity aspects.

Suggested Citation

Frederiksen, Niels, Fiscal Sustainability and Tax Smoothing: A Preliminary Analysis of the Case of Denmark (2000). Fiscal Sustainability Conference, p. 175, 2000, Available at SSRN: https://ssrn.com/abstract=2109408 or http://dx.doi.org/10.2139/ssrn.2109408

Niels Frederiksen (Contact Author)

Ministry of Finance - Denmark ( email )

1 Christiansborg Slotsplads
Copenhagen, 1218
Denmark

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