Increasing incentives to work by reforming social security and earned income taxation has not significantly altered the size of automatic fiscal stabilizers in Finland.
Automatic fiscal stabilizers refer to the parts of government expenditure and revenue that change automatically in response to business cycles. They act counter-cyclically by smoothing the effects of economic fluctuations. Automatic stabilizers work without explicit government interference; however, their size is affected by decisions regarding revenue and expenditure-related legislation.
Finland is a welfare state with relatively extensive social security and progressive income taxation. During the last decades, Finnish Governments have aimed at increasing the incentives to work by lowering earned income taxation and reforming social security. There is a trade-off between these so-called make-work-pay policies and the size of the automatic fiscal stabilizers: while incentives for work are improved, the automatic stabilization of the economy through public spending and taxation may decrease, which calls for more discretionary fiscal policy during economic fluctuations.
In our study, we estimated the size of Finland’s automatic fiscal stabilizers over 1993–2021 using each year’s tax and benefit codes and macro- and microdata of general government taxes and expenditures. As a measure of the automatic stabilizers, we estimated a budgetary semi-elasticity that captures the sensitivity of the general government budget balance to the economic cycle. We followed the methodology applied first by Girouard and André (2005) and recently by Almenberg and Sigonius (2021) using Swedish data.
We found that the estimated budgetary semi-elasticity for Finland has been close to 0.5 during the whole period of 1993–2021, although some changes in the level could be observed. This means that a one percentage point change in the output gap leads to a 0.5 percentage point change in the general government fiscal balance as a share of GDP. By reviewing different budgetary semi-elasticity estimates for Finland, we showed that the semi-elasticity estimate used by the European Commission in fiscal surveillance is tilted towards the higher end of the range.
Almenberg, J. and Sigonius, M. (2021). Automatic fiscal stabilizers in Sweden 1998–2019. Working paper 155, The National Institute of Economic Research (NIER).
Girouard, N. and C. André (2005), “Measuring Cyclically-adjusted Budget Balances for OECD Countries”, OECD Economics Department Working Papers, No. 434, OECD Publishing, Paris, https://doi.org/10.1787/787626008442.
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Leena Savolainen
Economist
Monitoring and Oversight
