Fiscal policy convergence and business cycle synchronization in the euro area
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- Master of Science 
This thesis aims to detect whether fiscal policy convergence (or divergence) is a determinant of business cycle synchronization in the European Economic and Monetary Union (EMU) of the European Union. The thesis is based on the literature on Optimum Currency Areas (OCA) which states that a common currency and a collective monetary policy are most appropriate if business cycles are synchronized across countries. We contribute to the discussion on the European Union (EU) as an optimum currency area by studying if fiscal policy convergence increases business cycle synchronization in the EMU. This is done by addressing the two Maastricht fiscal convergence criteria of the Stability and Growth Pact (SGP), as it is the tool for coordination of fiscal policy across the EMU. While the majority of existing literature on fiscal policy focuses on discretionary fiscal spending, our thesis also studies fiscal policy in the form of automatic fiscal stabilizers, namely governmental revenues and expenditures which size is determined by the phase of the country’s business cycle. Additionally, we address the impact of debt dynamics by using interest payments as a measure of accumulated debt. Fiscal policy divergence is measured as four independent variables: the structural deficit divergence, cyclical deficit divergence, primary deficit divergence, and interest payments divergence. Our data expands over the period 1980-2010. We conduct bilateral fixed effect analyses in order to account for country-pair specific effects. Our first finding suggests that convergence of automatic stabilizers increases business cycle synchronization. This is particularly interesting as the majority of earlier studies do not account for automatic stabilizers, but focus on discretionary fiscal policy as a determinant of business cycle synchronization. Our second finding is that convergence of accumulated debt increases business cycle synchronization. The findings are especially interesting in combination, as they link the two convergence criteria of Maastricht.
Masteroppgave (MSc) in Master of Science in Political Economy - Handelshøyskolen BI, 2012